Large Trader Reporting System

SECURITIES AND EXCHANGE COMMISSION

17 CFR Parts 240 and 249

[Release No. 34-33608; International Series Release No. 635; File No.

S7-24-91]

RIN 3235-AE42

Large Trader Reporting System

AGENCY: Securities and Exchange Commission.

ACTION: Reproposed rulemaking.

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SUMMARY: The Commission is reproposing Rule 13h-1 and Form 13H under

Section 13(h) of the Securities Exchange Act of 1934 (``Exchange

Act''). Rule 13h-1 was initially proposed by the Commission in Exchange

Act Release No. 29593 (August 22, 1991), 56 FR 42550 (August 28, 1991).

Reproposed Rule 13h-1 would establish an activity-based identification,

recordkeeping, and reporting system for large trader accounts and

transactions. Reproposed Rule 13h-1 also would establish a definition

for large traders and require such large traders to file Form 13H with

the Commission. Registered broker-dealers would be required to maintain

transaction records for each large trader account and report

transactions upon the request of the Commission or a self-regulatory

organization (``SRO'') designated by the Commission. Reproposed Rule

13h-1 would fulfill the goals of the Market Reform Act of 1990

(``Market Reform Act'') by providing the Commission with the

information necessary to reconstruct trading activity in periods of

market stress and for enforcement or other regulatory purposes, without

imposing undue burdens or costs on market participants.

DATES: Comments must be received on or before April 18, 1994.

ADDRESSES: Persons wishing to submit written comments should file three

copies with Jonathan G. Katz, Secretary, Securities and Exchange

Commission, 450 Fifth Street, NW., Washington, DC 20549. All comment

letters should refer to File No. S7-24-91. All comments received will

be available for public inspection and copying in the Commission's

Public Reference Room, 450 Fifth Street, NW, Washington, DC 20549.

FOR FURTHER INFORMATION CONTACT: Julio A. Mojica, Assistant Director,

(202) 272-7497, Nicholas T. Chapekis, Special Counsel, (202) 272-3115,

or Cameron D. Smith, Staff Attorney, (202) 272-5418, Division of Market

Regulation, 450 Fifth Street, NW., Washington, DC 20549.

SUPPLEMENTARY INFORMATION:

I. Introduction

The Commission is reproposing Rule 13h-1 to implement the large

trader reporting provisions of the Market Reform Act1 and section

13(h) of the Exchange Act.2 The Large Trader Reporting System that

would be established by reproposed Rule 13h-1 was initially proposed in

Securities Exchange Act Release No. 29593 (August 22, 1991), 56 FR

42550 (August 28, 1991) (``Proposing Release'').

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\1\Public Law 101-432, 104 Stat. 963 (1990).

\2\15 U.S.C. 78m(h) (1990).

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The Proposing Release chronicled the fundamental changes in

participants, information systems, and investment techniques that have

shaped the securities markets during the last decade.3 As a result

of these changes, today's securities markets are global in nature and

characterized by large foreign and domestic investors that rapidly

trade large quantities of securities, for themselves and others,

throughout the world. During this period of change, the securities

markets have experienced an increase in activity and the potential for

volatility.

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\3\See Proposing Release, 56 FR 42550.

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The legislative history accompanying the Market Reform Act noted

the Commission's limited ability to analyze the causes of the

significant market declines of October 1987 and 1989.4 The

Commission's inability to analyze trading activity was attributed to

its lack of specific statutory authority to gather broad-based samples

of investor trading information. To resolve this problem, Congress

provided the Commission with specific authority to establish a large

trader reporting system.

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\4\See generally Senate Comm. on Banking, Housing, and Urban

Affairs, Report to accompany the Market Reform Act of 1990, S. Rep.

No. 300, 101st Cong. 2d Sess. (May 22, 1990) (reporting S. 648)

(``Senate Report'') and House Comm. on Energy and Commerce, Report

to accompany the Securities Market Reform Act of 1990, H.R. Rep. No.

524, 101st Cong. 2d Sess. (June 5, 1990) (reporting H.R. 3657)

(``House Report'').

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In the Proposing Release, the Commission proposed rules that

defined the term large trader, required the disclosure of a large

trader's identity and accounts to the Commission or others, and

provided for the assignment of unique identifying numbers to large

traders. The proposed rule also required broker-dealers that carry

large trader accounts to maintain records of identified large trader

transactions as well as transactions of those persons who have not

identified themselves, but whom the broker-dealer knew or had reason to

know were large traders. In addition, the proposed rule required

broker-dealers to report large trader transactions in machine-readable

form through the industry's existing electronic bluesheet system to the

Commission upon request.

The Commission solicited comments on various aspects of the

proposed rule, including the definition of a large trader, the

identifying and reporting activity thresholds, exemptions, Form 13H

filing requirements, execution time recordkeeping and reporting, and

the proposed rule's application to foreign entities. The Commission was

particularly sensitive to the burdens imposed by the proposed system

and sought alternatives that would reduce such burdens and still

accomplish the objectives of the Market Reform Act.

The Commission received 77 written comments on the proposed

rule.5 In addition, members of the Division of Market Regulation

met on numerous occasions with the Securities Industry Association

(``SIA''), the American Bankers Association, the Intermarket

Surveillance Group (``ISG''), the Securities Industry Automation

Corporation (``SIAC''), and two broker-dealers, to answer questions and

discuss issues related to the operation of the proposed system and its

impact on market participants.6

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\5\The comment letters and the Division of Market Regulation's

summary thereof have been placed in the Commission's public files.

See SEC File No. S7-24-91.

\6\Memoranda summarizing the Division of Market Regulation's

meetings with these entities have been placed in the Commission's

public files. See SEC File No. S7-24-91.

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While generally supportive of the goals of the Market Reform

Act,7 the commenters expressed concern that the proposed rule

would be unduly burdensome and costly. The commenters generally sought

clarification of ``who'' would be a large trader, ``what'' information

must be disclosed on Form 13H, and ``when'' Form 13H or trade report

information must be submitted. These concerns were manifested in

specific questions and comments regarding the rules for aggregation,

the definitions of ownership and control, the scope of Form 13H

information, and time frames for filing Form 13H. The commenters also

addressed the identifying activity level, exemptions, and the duty to

supervise compliance with the proposed rule. Finally, the broker-dealer

community raised several concerns regarding the technical aspects of

the reporting requirements for execution times, multiple large trader

identification numbers (``LTID''), and the time frame for submitting

trade reports.

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\7\Comments were received from seven types of market

participants and regulatory organizations, which may be grouped as

follows: 12 broker-dealers; 24 investment advisers; 13 industry or

professional associations; 8 banks or trust companies; 6 regulatory

organizations; 4 law firms; and 9 other affected market

participants.

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The reproposed rule has been revised to incorporate many of the

suggestions made in the comment letters. These provisions are intended

to clarify the operation of the reproposed system and reduce the costs

associated with all aspects of the reproposed rule. The changes found

in the reproposed rule would: (1) Clarify the definition of a large

trader and provide a flexible concept of aggregation; (2) increase the

identifying and reporting activity levels; (3) reduce the scope of

information captured on Form 13H; (4) streamline Form 13H filing and

updating requirements that include an inactive filing status; (5)

provide more informative and detailed instructions to Form 13H; (6)

reduce the recordkeeping and reporting requirements for LTIDs; (7)

provide special reporting requirements for execution times; and (8)

provide a safe harbor for the duty to supervise.

The reproposed rule also addresses today's complex global trading

environment and attempts to maintain a level playing field between

broker-dealers and banks, both domestic and foreign. The Commission has

endeavored to maintain an equal competitive environment between these

entities by imposing requirements on custodians or nominees of omnibus

accounts. These duties include: (1) Form 13H filings; (2) confidential

and limited disclosures to the Commission or others; and (3) limited

duties to disaggregate and assure compliance with omnibus account

identification requirements.

Essentially, the reproposed large trader reporting system would

require that a person that falls within the definition of a large

trader would file Form 13H with the Commission. Upon receipt of Form

13H, the Commission would assign an LTID to the large trader. After

receiving a LTID, large traders would contact their broker-dealers and

inform them of their number and all accounts to which it applies.

Thereafter, the large trader only would be required to file an updated

Form 13H annually. The broker-dealers carrying the large trader's

accounts would maintain records of the trades for the account. These

broker-dealers would electronically report transactions upon receiving

a request from the Commission. Broker-dealers also would be required to

supervise compliance with the reproposed rule by their customers.

Fundamentally, the burdens that would be imposed on large traders

by the reproposed rule would include: (1) Filing Form 13H (See Sections

III.B.1. and 2.); (2) disclosing it's LTIDs to broker-dealers (See

Section III.B.3.); (3) updating Form 13H annually (See Section

III.B.1.); and (4) providing additional information when the Commission

requests (See Section III.B.5.). The burdens imposed on broker-dealers

would include: (1) Maintaining records of transactions effected for

large trader accounts (See Section III.C.); (2) electronically

reporting large trader transaction information when the Commission

requests (See Section III.D.); and (3) supervising their customers'

compliance with the reproposed rule (See Section III.E.).

The specific changes to the proposed rule and several examples of

how they would affect the reproposed system are discussed below. The

Commission believes that the reproposed rule accomplishes the

objectives of the Market Reform Act by creating an effective market

reconstruction tool, minimizing burdens and costs, and maintaining a

fair competitive environment among markets and market participants.

II. Solicitation of Comments

The Commission believes that the modifications and additions found

in the reproposed rule would significantly reduce the burdens and costs

of the proposed system without impeding its effectiveness and,

therefore, would accomplish the objectives of the Market Reform Act. As

discussed below, the Commission staff has engaged in extended

discussions with market participants and securities information

processors, and many alternatives have been identified. The Commission

has incorporated in the reproposed rule those alternatives that it

believes would accomplish the objectives of the Market Reform Act.

Because the changes to the proposed rule are significant, the

Commission seeks comments on any aspect of the reproposed rule and,

specifically, comments that relate to the: (1) The identifying activity

level; (2) other means to assure that natural persons who were not

intended to be large traders are not affected by the reproposed rule;

(3) the use of the Depository Trust Company's (``DTC'') Institutional

Delivery System (``ID System''); (4) the rules for aggregation of

accounts; (5) Form 13H and Schedules; (6) the supervisory safe harbor;

and (7) the plan for implementing the transaction reporting system.

Finally, the Commission invites comments as to whether there are more

cost-effective alternatives to the reproposed rule or system that would

provide similar benefits, including particular alternatives that adopt

a different structure. The Commission also continues to solicit

specific comments that explore the relative costs and benefits of the

reproposed system generally, or any other alternatives. Furthermore,

because of the time that has elapsed, comments that identify any new

information technologies that accomplish the objectives of the Market

Reform Act and minimize costs to a greater extent would be appreciated.

With respect to the reproposed identifying activity level, the

Commission solicits comments on the appropriateness of the new

thresholds. The new identifying activity level, combined with certain

exemptions from the definition of a transaction and the new inactive

status, were designed to minimize the impact of the reproposed rule on

natural persons that infrequently trade in a magnitude that may warrant

imposing the added regulatory burdens of the reproposed system. The

Commission would welcome comments regarding any other means for

eliminating the impact of the reproposed rule on these types of

persons. In particular, the Commission solicits comments on whether a

separate identifying activity level for natural persons or an exemption

for natural persons that effect less 1,000,000 shares or fair market

value of $25 million in a calendar day, would be a more appropriate

means for minimizing the impact of the Rule.

The ID System is an electronic communications and book-entry

settlement system through which most large institutional investors,

their brokers or advisers, or their custodians or nominees confirm and

settle trades.8 As discussed below, the ID System has been

incorporated into the reproposed rule to reduce its burdens in three

respects. Under the reproposed rule, the use of numbers assigned by DTC

to ID System participants would: (1) Be incorporated into the Schedules

to Form 13H by permitting their use in lieu of LTIDs; (2) minimize the

amount of communication among members of an investment complex that

would be necessary to complete Form 13H and fulfill the LTID disclosure

requirements; and (3) establish a limit on the number of identification

numbers that would be required to be maintained for each account, and

reported for each transaction, by broker-dealers.

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\8\See DTC Participant Operating Procedures, Section M, ID

System Procedures (April 1983). DTC also has established a similar

system for international institutional activity called the

International Institutional Delivery System (``IID System''). See

Securities Exchange Act Release No. 27545 (December 18, 1989) 54 FR

53017 (December 26, 1989). The IID System varies from the ID System

in that it does not provide a mechanism for automated book-entry

settlement. DTC has proposed enhancements to the ID System that

would unify existing ID and IID Systems into an ``Interactive ID

System.'' See Securities Exchange Act Release No. 33010 (October 4,

1993), 58 FR 53007 (October 13, 1993); and DTC An Interactive Option

for the Institutional Delivery System, Memorandum to Participants

and Other ID Users (March 31, 1993).

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The Commission specifically solicits comments on the

appropriateness and feasibility of these proposed uses of the ID

System. The Commission would welcome comments that identify other ID

System information or procedures that would reduce the burden of the

reproposed rule without diminishing its effectiveness for accomplishing

the objectives of the Market Reform Act.

With respect to the reproposed rules for aggregation of accounts

and Form 13H, the Commission solicits comments on additional

simplification or means for reducing the burden of determining who is a

large trader and completing Form 13H. The Commission also solicits

comments on the appropriateness of the supervisory safe harbor.

Finally, the Commission solicits comments on whether a proposed plan

for implementing the transaction reporting requirements would be

feasible.

III. Discussion of the Reproposed Rule

A. Application and Scope

The fundamental scope and application of the reproposed rule is

established by the definition of a large trader. The definition of a

large trader and its separately defined terms were found in paragraph

(f) of the proposed rule. These definitions have been reorganized into

paragraph (a) of the reproposed rule in order to clarify the

fundamental application and scope of the reproposed rule. As mentioned

above, many of the comments raised concerns that generally may be

described as a question of ``who is a large trader.'' The terms of the

reproposed rule essentially would provide that every person who effects

aggregate transactions reaching the identifying activity level, through

accounts carried by a registered broker-dealer, which are aggregated

based on ownership or control, would be a large trader.

1. Definition of a Large Trader

The term large trader, as defined in paragraph (a)(1) of the

reproposed rule, would mean every person who, for an account that he

owns or controls, effects transactions for the purchase or sale of any

publicly traded security or securities by use of any means or

instrumentality of interstate commerce or of the mails, or of any

facility of a national securities exchange, directly or indirectly by

or through a registered broker or dealer in an aggregate amount equal

to or in excess of the identifying activity level. The reproposed

definition of a large trader closely tracks the definition provided in

Section 13(h)(8)(A) of the Exchange Act.9

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\9\ See 15 U.S.C. 78m(h)(8)(A) (1990).

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The reproposed rule varies from the proposed rule and statutory

definition only to the extent that the phrase ``* * * for an account

that he owns or controls * * *'' has replaced the phrase ``* * * for

his own account or an account for which he exercises investment

discretion * * *''10 The Commission believes that this

modification does not change the proposed definition of a large trader,

but merely clarifies the interrelationship between the definition of a

large trader and its separately defined terms.

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\1\0 See Proposing Release, 56 FR 42561 (proposed text).

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The definition of a large trader remains dependent upon the

definitions of a person, account, ownership, control, publicly traded

security, transaction, the identifying activity level, and the rules

for aggregation. The Commission believes that the modifications to the

proposed definitions of these terms address the questions raised by the

commenters, clarify the proposed rule, and narrow the proposed

definition of a large trader.

a. Definition of a person. The definition of a person found in

paragraph (a)(2) of the reproposed rule varies only slightly from the

proposed definition.11 The lone modification to this definition

would be the deletion of the term ``trust'' and the addition of the

phrase ``persons, entities, partnerships, or other groups acting as a

trustee.'' The addition of this phrase addresses a legal issue raised

by a private pension trust, which asserted that a trust may not be

deemed a person because it does not have a present ability to act

(e.g., effect transactions) separate from its trustee. The Market

Reform Act intended that trusts of all types be included in the

definition of a large trader.12 The definition of a person

contained in paragraph (a)(2) of the reproposed rule would assure that

all trusts, through their trustees, are included within the definition

of a person and thus may be large traders.

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\1\1Id.

\1\2See Proposing Release, 56 FR 42552, at n. 26 and

accompanying text.

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b. Definition of an account. Paragraph (a)(3) of the reproposed

rule would add a definition for the term ``account or accounts.'' This

term was not defined in the proposed rule and the comments received

from banks, investment advisers, and other non-broker-dealer market

participants exhibited substantial confusion in this respect. The

Commission believes that this confusion led the commenters to

incorrectly interpret ``who'' the Commission intended to be included

within the definition of a large trader. These commenters appear to

have believed, incorrectly, that the accounts of ``small'' trust or

advisory customers would become large traders, with all of the duties

attendant thereto, by virtue of the fact that a large trader exercised

control over such accounts.

The Commission, therefore, is proposing new paragraph (a)(3) that

would define the term account or accounts to mean each proprietary and

customer account maintained or carried by a registered broker or

dealer, which is disclosed or undisclosed to such broker or dealer as

to ownership, and for which books and records are required to be kept

in accordance with the provisions of Rule 17a-3 under the Exchange Act.

This definition would clarify that only accounts maintained or carried

by broker-dealers under the Exchange Act would be subject to the

reproposed rule.

c. Definition of ownership. The definition of ownership would be

narrowed and reorganized in paragraph (a)(4) of the reproposed rule.

The apparent breadth of this definition received extensive comments,

especially with respect to its impact on the proposed rules for

aggregation and the information required to be provided on Form

13H.13 The Commission also received many comments on the proposed

inclusion of custodians or nominees within the definition of ownership.

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\1\3 See infra Sections III.A.2. and III.B.2., for a discussion

of the reproposed rules pertaining to aggregation and Form 13H,

respectively.

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The Commission believes that the commenters failed to understand

that the concept of ownership is focused on the ``accounts of a

person.'' The Commission, however, acknowledges that the proposed

definition of ownership, combined with the rules for aggregation, may

support some of the sweeping interpretations of the proposed definition

of a large trader expressed in the comments. These commenters broadly

interpreted the proposed definition of ownership and the rules for

aggregation to require: (1) The aggregation of individual accounts of

all employees, officers, directors, controlling shareholders, and

partners with their large trader corporation, trust, or partnership,

irrespective of such individual's role in the trading decisions of the

large trader entity; (2) the accounts of all parent, subsidiary, and

affiliated companies within a holding company structure to be

aggregated by and with each parent, subsidiary, or affiliate; and (3)

the accounts of wholly unrelated large trader entities to be aggregated

due to common directors, controlling shareholders, partners, or

trustees. In response to these comments, the Commission has revised the

proposed definition of ownership.

i. General definition. The definition of ownership, as reproposed

in paragraph (a)(4), would provide that an account of a person shall be

deemed to be owned or under common ownership of the person in whose

name an account is maintained, or custodian or nominee that maintains

an omnibus account, and any other person who has more than a 10 percent

financial interest in the equity in the account or accounts of such

person. This reproposed definition of ownership would incorporate

existing rules, procedures, and practices that require broker-dealers

to maintain the name and address of the beneficial owner of an account

and would be interpreted consistently with such rules, procedures, and

practices.14

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\1\4See Rule 17a-3(a)(9)(i) under the Exchange Act, 17 CFR

240.17a-3(a)(9)(i).

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The reproposed rule states that ``an account of a person'' would be

deemed to be owned or under common ownership, thus emphasizing that the

primary focus of the concept of ownership would be the ``accounts of a

person,'' and not ownership of the person itself. Accordingly, under

the reproposed rule, accounts maintained in the name of a parent,

subsidiary, or affiliate would be deemed to be owned by that parent,

subsidiary, or affiliate. This focus would be made evident in the

reproposed Schedules 6a and 6b to Form 13H.

The focus on accounts also would address those comments that deemed

the accounts of employees, officers, directors, controlling

shareholders, and partners to be owned by their respective corporation

or partnership, irrespective of such individual's role or lack thereof,

in the trading decisions of the large trader entity. The reproposed

rule would eliminate the sweeping nature of the proposed definition by

providing that an account is owned or under common ownership of the

entity.

ii. Custodians or nominees. As discussed in the Proposing Release,

institutional investors engage the services of different investment

advisers and executing broker-dealers, yet the trades effected by these

persons may be settled and the investment assets may be deposited

centrally with one custodian bank, trust company, or broker-dealer that

is sometimes referred to as a prime broker.\15\ The Commission

believes, based upon its experience with broad-based trade

reconstructions, that the increased size and specialization of market

participants has led to the increased use of these multi-layered

accounts. Typically, these accounts fragment or obscure the information

about large trader accounts and activity that the Commission needs to

analyze market trading.

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\15\See Proposing Release, 56 FR 42554, at nn. 47-49 and

accompanying text.

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Substantial comments were received with respect to the inclusion of

custodians or nominees within the definition of ownership. The

commenters all questioned the appropriateness of including passive

custodians or nominees. These commenters argued that passive custodians

or nominees, which merely act as a conduit for delivery/receipt versus

payment (``DVP/RVP'') settlement of transactions, should not be

included within the definition of a large trader. However, the comments

regarding custodians and nominees acknowledged that many custodians or

nominees act as a discretionary agent or fiduciary for the execution of

trades and thus may be large traders that control accounts owned by

other persons.

The inclusion of custodians and nominees also caused broker-

dealers, banks, and trust companies to question the capture of multiple

LTIDs for a single account or transaction. These commenters asserted

that the cost of keeping and reporting multiple LTIDs, for a single

account or trade, would be unduly burdensome.\16\ It also was suggested

that the capture of multiple LTIDs may cause duplication or distortion

of total reconstructed trade activity. Many of these commenters also

noted the possible applications of the ID System. Lastly, the

commenters confirmed that, in these multi-layered accounts, the

participants usually do not have knowledge of each other's activities

and, individually, none of the participants may know or have access to

all of the information that the Commission needs to analyze market

trading activity.

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\16\See infra Section III.C.2. and III.D.3., for discussions of

the reproposed LTID recordkeeping and reporting requirements,

respectively.

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The Commission believes that the inclusion of custodians and

nominees in the definition of ownership would serve three important

purposes. First, it would assure that banks and broker-dealers, both

foreign and domestic, are treated consistently under the reproposed

rule. Second, it would assure disclosure of the appropriate LTIDs for

each account. Finally, the inclusion of custodians and nominees would

enable the Commission to efficiently characterize trading activity.

The problem that the Commission has sought to address with respect

to custodians and nominees is its inability to obtain information about

the ultimate or actual beneficial owners and controllers of omnibus

accounts or accounts otherwise undisclosed as to ownership. Although

the number of these accounts may be small in relation to fully

disclosed accounts, the Commission believes that the nature of large

trader activity causes a significant percentage of this activity to be

effected through these accounts. Accordingly, the definition of

ownership in the reproposed rule would include only those custodians or

nominees that maintain omnibus accounts or accounts otherwise

undisclosed as to ownership.

These changes would work in conjunction with the other

modifications to the definition of ownership to assure that the fully

disclosed owner of an account, or the custodian or nominee of an

omnibus account, is deemed to be the owner of that account, not the

broker-dealer, bank, or trust company that acts only as an agent for

settlement of transactions effected through a fully disclosed account.

Moreover, reproposed Schedule 8 to Form 13H has been designed to

capture information about a custodian or nominee large trader and the

undisclosed large traders that effect trades in or through his omnibus

accounts, not small or otherwise infrequent traders whose trades may be

effected through such accounts. Reproposed Schedule 8 is designed in a

manner that the Commission believes would approximate existing ID

System practices and procedures for maintaining such information.\17\

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\17\Essentially, the ID System captures information regarding

the capacity of the participants to a multi-layered account.

Participants are grouped and numbered as agents, broker-dealers,

institutions, and interested parties. The term ``Agent'' is defined

as the entity appointed by the buyer and seller to clear their

trades. The term ``Broker-dealer'' means the entity that executes a

trade on behalf of the buyer or seller. The term ``Institution''

means those parties that initiate the trade as buyer or seller, on

its own behalf or on behalf of another. Finally, the term

``Interested Party'' is defined as those entities, other than the

Agent or Institution, which receive a confirmation because they have

a role to play in the settlement of a trade. It is important to note

that these capacities are not mutually exclusive and one participant

may perform the tasks associated with any number of these

capacities. See ID System Directory, Volume X, Number 9, September

1992.

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The Commission believes that the revisions to the reproposed

definition of ownership would significantly clarify the obligations of

persons that own and/or act as custodians or nominees for large trading

accounts. The Commission also believes that the reproposed definition

of ownership would minimize the burden of the identification

requirements on such large traders.

d. Definition of control. As with the definition of ownership, the

commenters uniformly criticized the sweeping impact of the proposed

definition of control when combined with the proposed rules for

aggregation. Some commenters questioned whether merely controlling the

accounts or trading of a large trader would, by itself, cause such

controller to be a large trader.

Many of the commenters also indicated that the persons or entities

that control trading activities usually have the most knowledge of

large trader accounts, activity, or objectives and, therefore, should

be the focus of the identification requirements. Finally, one commenter

questioned the appropriateness of the inclusion of limited

discretionary investment authority within the definition of control.

This commenter asserted that the definition of limited discretion would

force broker-dealers to aggregate the activity of all customers for

whom they executed not held orders.\18\

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\18\Not held orders relieve the executing broker of

responsibility with respect to the time and price of execution, if

the broker uses ``brokerage judgment'' when executing the order. See

e.g., New York Stock Exchange (``NYSE'') Rule 123A.44, NYSE Guide

(CCH) 2123A. Not held orders may be characterized as: (1) defensive

orders required by brokers in times of unusual market volatility

(i.e., fast markets); or (2) consideration provided by a customer to

a broker for the commitment of capital or expertise in the execution

of large ``block trades.'' See e.g., NYSE Rule 127.10, NYSE Guide

(CCH) 2127 (definition of block trade).

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The definition of control has been modified in paragraph (a)(5) of

the reproposed rule.\19\ These revisions would emphasize that the focus

of the reproposed concept of control is ``control of the accounts of a

person,'' not control of the person itself. The reproposed rule also

would provide that the owner of an account, as well as any person with

full or limited discretion over an account, is deemed to control that

account.

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\19\See Proposing Release, 56 FR 42561 (proposed text).

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The reproposed rule would clarify that a person's mere exercise of

control over a large trader's accounts or transactions, without

effecting the requisite level of transactions, would not cause such

person to be a large trader under the reproposed rule. Additionally,

new paragraphs (a)(5)(i) and (ii) of the reproposed rule would add the

definitions of full and limited discretionary investment authority

suggested in the Proposing Release.\20\ With respect to the execution

of not held orders, the Commission would interpret their execution to

not fall within the reproposed definition of control.

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\20\See Proposing Release, 56 FR 42553, at nn. 34 and 35.

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Finally, the reproposed rule would acknowledge that persons who

control accounts usually are in possession of most of the information

required by Form 13H and required to be disclosed to broker-dealers.

Accordingly, reproposed Schedules 7a and 7b to Form 13H and the

reproposed LTID disclosure requirements would be specifically designed

to capture and disclose information regarding fully disclosed or

omnibus accounts controlled by a large trader.

The Commission believes that these requirements take into account

the existing industry practices and procedures for the maintenance of

such information. The Commission also believes that the changes to the

proposed definition of control would clarify the obligations of large

traders who control accounts owned by others and would minimize their

burdens.

e. Definition of a transaction. The definition of a transaction or

transactions provided in paragraph (a)(7) of the reproposed rule, also

would clarify and narrow the scope of the definition of a large trader.

The modifications to this definition address technical issues raised in

the comments regarding the inclusion of cancellations, corrections, and

exercises or assignments of option contracts, within the meaning of the

term transaction or transactions.

The reproposed rule states that the term transaction or

transactions would mean all transactions in publicly traded securities,

including cancellations, corrections, exercises, and assignments.\21\

The definition of publicly traded securities found in reproposed

paragraph (a)(6) would be unchanged, and would mean any national market

system security as defined in Rule 11Aa2-1 under the Exchange Act.\22\

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\21\See infra text accompanying n. 67, for the impact of this

definition on the trade reporting requirements of the reproposed

rule.

\22\17 CFR 240.11Aa2-1. A national market system security is any

security that is subject to an effective real-time transaction

reporting plan filed with the Commission, and includes all

securities listed on a national securities exchange and all National

Association of Securities Dealers, Inc., Automated Quotation System

(``NASDAQ''), National Market System (``NMS'') securities. See

Proposing Release, 56 FR 42552, at text accompanying nn. 16-19.

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New paragraph (a)(7)(i) of the reproposed rule was added to exclude

from the term ``transaction'' certain activity commonly posted to

customer accounts by clearing broker-dealers and passive custodians or

nominees. This paragraph would exclude from the definition of a

transaction any journal or bookkeeping entry made to an account to

record or memorialize the receipt or delivery of funds or securities

pursuant to the settlement of a transaction.

Three new exclusions to the term transaction also have been added

in paragraphs (a)(7)(v), (vi), and (vii) of the reproposed rule. These

exclusions track the trading objectives or characteristics, identified

in the Proposing Release, of small or otherwise infrequent traders that

the Commission did not intend to be included in the definition of a

large trader.\23\ These new exclusions would include: (1) Transactions

effected by a court appointed executor, administrator, or fiduciary

pursuant to the distribution of a decedent's estate; (2) transactions

effected pursuant to a court order or judgment for distribution of

property in a marital proceeding; and (3) a qualified plan or trust

rollover afforded favorable tax treatment under section 402(a)(5) of

the Internal Revenue Code.\24\

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\23\See Proposing Release, 56 FR 42551, at n. 12 and

accompanying text.

\24\26 U.S.C. 402(a)(5) (1988).

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It should be noted that the exclusion for transactions of a

decedent or marital estate would include only those transactions

effected pursuant to the distribution or liquidation of such estates

and would not include transactions effected pursuant to the continuing

administration or investment of such estate's assets. The distinction

drawn between the distribution and the administration of an estate

pursuant to a court order acknowledges that court appointed fiduciaries

may be authorized to invest and reinvest in securities for many years.

The Commission believes that the exclusion of such estates from the

identification requirements of the reproposed rule would be

inappropriate.

The Commission believes that these new exclusions from the

definition of a transaction would indirectly exempt a significant

number of those small or otherwise infrequent traders that were not

intended to be large traders under the Market Reform Act. Moreover, the

Commission believes that the definition of a transaction would reduce

the impact of the reproposed rule on registered broker-dealers.

f. Identifying activity level. The Commission expressly solicited

comment on the appropriateness of the volume, market value, exercise

value, and time period proposed for the identifying activity level.

Generally, the commenters felt that the threshold was too low and

recommended higher levels that ranged from a low of 200,000 shares and

$10 million, to a high of 5 million shares and $50 million. A few

commenters suggested that only market value should determine large

trader status, while others suggested that market price, rather than

exercise price, would be more appropriate for valuing options. Finally,

many of the commenters expressed support for a calendar day measure

because of the inherent difficulty of aggregating transactions effected

in different time zones.

The definition of the identifying activity level contained in

paragraph (a)(8) of the reproposed rule would increase and change the

thresholds contained in the proposed rule from 100,000 shares to

200,000 shares and fair market value of $2 million, and from a fair

market value of $4 million to $10 million. The Commission believes that

the addition of the $2 million fair market value requirement to the

fundamental share volume threshold would act as a floor to minimize the

impact of the reproposed rule on those persons that effect transactions

in lower priced securities. The Commission solicits comments on whether

this new element of the identifying activity level would be

appropriate. The Commission also solicits comments regarding the

effectiveness of the new identifying activity level for minimizing the

impact of the reproposed rule on natural persons that infrequently

trade large amounts of publicly traded securities.

The time period for aggregating transactions also would be changed

from a 24 hour period to ``a calendar day where the account is

located.'' The Commission would deem a calendar day to be a 24-hour

period starting at 12 a.m. and ending at 11:59 p.m. An account would be

deemed to be located at the principal place of business of the broker-

dealer, not where the customer or registered representative servicing

the account is located. Finally, the provisions regarding program

trading are reproposed without changes in paragraphs (a)(9) and

(10).25

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\2\5See Proposing Release, 56 FR 42552, at text accompanying n.

15.

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The Commission continues to believe that the capture of significant

trading activity concurrently with program trading activity is

essential for accomplishing the purposes of the Market Reform Act. The

Commission has balanced this need against the burden of capturing the

information and believes that the reproposed identifying activity level

would strike an appropriate balance. The Commission also believes that

the reproposed identifying activity level would establish a relatively

simple and bright-line threshold that would be squarely within the

activity-based mandate of the Market Reform Act.

2. Aggregation of Accounts and Transactions

Section 13(h)(3) of the Exchange Act authorizes the Commission to

prescribe rules governing the manner in which transactions and accounts

shall be aggregated, including the basis of ownership or

control.26 The commenters uniformly criticized the proposed rules

for aggregation as overly broad and inflexible. Generally, these

criticisms were levied by diversified financial service holding

companies whose affiliates, subsidiaries, and divisions engage in

related and unrelated trading activities. As discussed above, much of

this criticism emanated from the definitions of ownership and control.

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\2\6See 15 U.S.C. 78m(h)(3) (1990).

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These commenters argued that the mandatory nature of the proposed

rules would cause overlapping and duplicative aggregation among the

various entities within a holding company structure. The commenters

made a variety of recommendations, including a flexible approach,

approaches designed to meet the needs of the specific commenter, an

``acting in concert'' approach, and the elimination of the concept of

aggregation. The comments regarding aggregation highlight the

complexity of designing a simple and efficient large trader system that

accommodates the different corporate structures and business practices

of large traders. The proposed aggregation requirements, however, were

intended to deter non-compliance by prohibiting a person or group of

persons from splitting activity among many broker-dealers, accounts,

and transactions for the purpose of avoiding the identification

requirements of the proposed rule.

a. General Description. The rules for aggregation have been

reorganized into paragraphs (c)(1) and (2) of the reproposed rule to

distinguish the requirements for the aggregation of accounts and the

aggregation of transactions, respectively. The rules for the

aggregation of transactions found in reproposed paragraph (c)(2)

contain only minor changes that reflect the reorganization of the

proposed rules.27

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\2\7See Proposing Release, 56 FR 42561 (proposed text).

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The focus of the reproposed rule would be the ``aggregation of

accounts owned or controlled by a person.'' Paragraph (c)(1)(i) of the

reproposed rule would implement a new flexible approach to the

aggregation of accounts by permitting, but not requiring, the

aggregation of accounts that are owned or controlled or under common

ownership or control of a person, which independently would be a large

trader. Conversely, paragraph (c)(1)(ii) of the reproposed rule would

require aggregation of accounts of a person who independently would not

be a large trader.

In order to assure compliance and deter the use of this flexible

approach to circumvent the reproposed rule, new paragraph (c)(1)(iii)

would provide that, under no circumstances, shall a person or group of

persons acting in concert toward a common investment objective be

permitted to disaggregate accounts in order to avoid the identification

requirements of the reproposed rule. Finally, reproposed Form 13H and

Schedules have been redesigned to explain and facilitate the various

choices that large traders may make with respect to aggregation.

b. Disaggregation. The concept of disaggregation would be

reorganized into paragraph (c)(3)(i) of the reproposed rule. The

reproposed rule provides that the Commission may require a large trader

to disaggregate accounts or transactions in any manner and authorizes

the Commission to require the submission of additional transaction or

other information relating to transactions reported under the

reproposed rule. To assure that the Commission's requests for

disaggregation are reasonable, however, the reproposed rule would

require the Commission to consider the operational capabilities of the

large trader when making a request for disaggregation.

The Commission's efforts to assure the credibility of the

reproposed system would require the imposition of certain duties on

omnibus large traders. These duties would include supplying information

that would facilitate analysis of market trading activity. The duties

would arise from, and pertain to, the disaggregation and identification

requirements.28 These duties are found in paragraph (c)(3)(ii) of

the reproposed rule and would only apply to those large traders that

maintain, or effect transactions through, omnibus accounts carried by a

registered broker-dealer. The obligations imposed on these large

traders would be to establish systems and procedures designed to assure

compliance with the disaggregation and identification requirements and,

in particular, assure that the information regarding omnibus accounts,

disclosed to the Commission on reproposed Schedules 7b and 8, is

accurate and complete.

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\2\8See infra Section III.E., for a discussion of the

supervisory safe harbor for broker-dealers.

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Systems and procedures designed to assure compliance with the

identification and disaggregation requirements that are substantially

comparable to those described in reproposed paragraph (f) would be

deemed to be in compliance with reproposed paragraph (c)(3)(ii).

Systems and procedures designed to assure that Schedules 7b and 8 are

accurate and complete may include recordkeeping procedures triggered by

the opening of new accounts and prescribing how, or for whom, a given

omnibus account may be used. These systems and procedures are not

intended to affect the existing disclosure practices and procedures

between broker-dealers and banks or trust companies.29

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\2\9Custodian or nominee large traders generally are required to

maintain and report information to their respective regulatory

authorities that is similar to that required on these Schedules.

These large traders, however, are not normally required to disclose

proprietary information (e.g., customer lists) to competitors or

other non-primary regulatory authorities.

---------------------------------------------------------------------------

The need to impose these duties on omnibus large traders results

from the undisclosed nature of omnibus accounts. The Commission

believes that the obligations found in reproposed paragraph (c)(3)(ii)

would be necessary to assure the effectiveness and credibility of the

large trader system. The Commission also believes that these

requirements would establish consistent duties with respect to omnibus

accounts maintained by banks or broker-dealers.

c. Aggregation examples. A diversified financial services holding

company, for example, may engage in all forms of banking, corporate

finance, and trust services in addition to the full range of broker-

dealer activities, such as proprietary trading, market making,

brokerage execution, and clearing services for retail and institutional

customer accounts. This holding company also may provide discretionary

and non-discretionary investment management services for retail and

institutional customers, as well as for affiliated and unaffiliated

investment companies, pension funds, and insurance companies.

Under the reproposed rules for the aggregation of accounts, the

holding company is permitted to formulate its own methodology for

filing of Form 13H.30 For example, it may file a single Form 13H

that would include accounts of all its owned or controlled and commonly

owned or controlled persons, divisions, subsidiaries, and affiliates.

In the alternative, the holding company may file separate Form 13Hs for

its divisions, subsidiaries, and affiliates that independently would be

a large trader. Finally, the holding company may file a separate Form

13H for individual traders or trading desks which also would

independently qualify as a large trader.

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\3\0See infra Section III.B.2., for a discussion of Form 13H and

instructions.

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In another example, a diversified broker-dealer that engages in

investment banking, proprietary trading, discretionary and non-

discretionary investment management services, and clearing and custody

services may also adopt its own methodology for the filing of Form 13H.

First, the broker-dealer could file a single Form 13H for all of its

activities. Second, the broker-dealer could file separate forms by

dividing its activities along the three large trader capacities and

then further subdivide each capacity in a fashion that best suits its

business needs. Accordingly, this broker-dealer may wish to file one

Form 13H for each proprietary trader due to operational considerations,

two Form 13Hs for its investment management subsidiary due to

confidentiality considerations (e.g., one for affiliated investment

company accounts and one for other managed accounts), and for

supervisory considerations, one Form 13H for all of the omnibus

accounts for which it acts as custodian/nominee only.

The Commission believes that this flexible approach to aggregation

would accommodate the needs of the greatest number of large traders in

the least burdensome manner possible. The Commission also believes that

the reorganization and revision of the reproposed rules for aggregation

would clarify the reproposed definition of a large trader.

Nevertheless, the Commission solicits comments on whether there are

other more effective means for aggregating accounts that would

accomplish the objectives of the Market Reform Act.

B. Identification Requirements for Large Traders

Section 13(h)(1) of the Exchange Act authorizes the Commission to

prescribe identification requirements for large traders for the purpose

of monitoring the impact of large transactions on securities markets

and to assist the Commission in the enforcement of the Exchange

Act.31 The Commission is specifically authorized to require large

traders to provide it with the information deemed necessary or

appropriate to identify large traders and all accounts in or through

which large traders effect transactions.32 The Commission also is

authorized to require large traders to disclose their large trader

status to the registered broker-dealers that carry the accounts through

which they effect transactions.33 The Commission is reproposing

Rule 13h-1(b) and Form 13H to implement these provisions of Section

13(h)(1) of the Exchange Act.

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\3\1See 15 U.S.C. 78m(h)(1) (1990).

\3\2See 15 U.S.C. 78m(h)(1)(A) (1990).

\3\3See 15 U.S.C. 78m(h)(1)(B) (1990).

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1. Form 13H Filing Requirements

Paragraph (b)(1) of the reproposed rule provides that each large

trader shall file Form 13H with the Commission in accordance with the

instructions contained therein. The filing requirement for Form 13H is

the most significant burden imposed on large traders by the reproposed

rule. The time for filing Form 13H is contained in new paragraphs

(b)(1) (i) and (ii) of the reproposed rule.

The Commission recognizes that, due to the nature of many large

trader's business activities, much of the information required by the

proposed form may change daily. Accordingly, new paragraph (b)(1) of

the reproposed rule would eliminate the proposed requirement that a

large trader file a Form 13H every time the ``information contained

therein becomes inaccurate for any reason.''

Paragraph (b)(1) of the reproposed rule would require a large

trader to file Form 13H within 10 business days after it first effects

transactions that reach the identifying activity level and within 60

calendar days after the end of each full calendar year thereafter. It

should be noted, however, that a large trader would still be required

to disclose its LTID or ID System number when a new account is opened

during a calendar year.34 The Commission believes that the

reproposed Form 13H filing requirements would substantially reduce the

frequency of filings and accomplish the purposes of the Market Reform

Act.

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\3\4See infra Section III.B.3., for a discussion of the duty to

disclose large trader status.

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2. Form 13H and Instructions

The Commission received many negative comments about Form 13H. The

majority of the commenters argued that the proposed Form 13H and

Schedules were duplicative or burdensome, and would be required to be

filed too frequently. The commenters made various suggestions to

eliminate or reduce the burdens of the proposed form. These suggestions

included: (1) eliminating the listing of certain types of

accounts;35 (2) incorporating information contained in other

Commission filings by reference; (3) limiting the number of officers,

directors, and partners for whom information must be provided; and (4)

redesigning the proposed Schedules to capture the particular

information possessed by each of the three basic types of large trader

(i.e., owner, controller, or custodian/nominee).

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\3\5These comments argued that the proposed Schedules,

especially proposed Schedule 5, should not require a large trader

that controls accounts to list the fully disclosed accounts of small

or otherwise infrequent traders that it controls or the undisclosed

sub-accounts of persons for whom trades are effected through an

omnibus account.

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a. General description. The Commission is reproposing a

substantially revised Form 13H, Schedules, and Instructions. The

revisions to proposed Form 13H reflect the modifications to the

definition of a large trader and LTID disclosure requirements and

incorporate other recommendations made in the comments. As discussed in

the Proposing Release, the information disclosed on Form 13H would be

exempt from disclosure under the Freedom of Information Act (``FOIA'')

pursuant to Section 13(h)(7) of the Exchange Act.36 A few

commenters questioned the apparent lack of a similar exemption for the

transaction information reported under the proposed rule. Section

13(h)(7) provides that ``any information required to be kept or

reported'' is exempt from disclosure under FOIA. Therefore, transaction

information reported under the reproposed rule also would be exempt

from disclosure under FOIA. The Commission believes that the non-

disclosure of such information also may be covered by other existing

Commission rules.37

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\3\615 U.S.C. 78m(h)(7) (1990). See Proposing Release, 56 FR

42554 at text accompanying nn. 50-52.

\3\7See e.g., 17 CFR 200.80(b)(3), (4)(iii), (5), (7), and (8).

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The cover page to reproposed Form 13H would remain substantially

unchanged except for the exclusion of the amended filing requirement,

the addition of an inactive filing status, and the capture of

applicable LTID or ID System numbers. Item 1 to Form 13H also would be

unchanged, except for minor changes that conform with the reproposed

definition of a person.38 The remaining Items and Schedules of the

proposed form have been substantially revised in the reproposed Form

13H.

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\3\8See supra Section II.A.1.a., for a discussion of the

addition of persons or entities acting as a trustee to the

definition of a person.

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Reproposed Item 2 to Form 13H would implement a new exemption from

the filing requirements of reproposed Item 4 for persons and entities

regulated by the Commission by allowing the incorporation by reference

of information already on file with the Commission. The Commission

anticipates that some of the most common registrations or filings that

large traders may list in reproposed Item 2 would include: Form BD;

Form ADV; Forms 3, 4, or 5; Form 10-K or 10-Q; and Form U-4.

The Instructions to reproposed Item 2 also would inform large

traders that the listed registrations and filings should reflect the

registrations of all other large traders and persons whose accounts the

large trader has decided to aggregate into its Form 13H. Finally, the

reproposed Instructions would inform large traders that Item 4 and the

appropriate Schedule must be filed for those persons who are not

registered with the Commission and whose accounts have been aggregated

with a ``registered person.''

The Schedules to reproposed Item 4 also have been refined to

capture only minimal descriptive information about the persons who own

or control a large trader corporation, partnership, limited

partnership, or trust. For the most part, the collection of addresses,

telephone and facsimile numbers, and regulatory information has been

eliminated. The terms ``officer and partner'' also have been changed in

the reproposed Schedules 4b and 4c to ``executive officer'' and

``limited partner that is the owner of more than a 10 percent financial

interest in the accounts of the large trader.'' The term ``executive

officer'' would be deemed to mean ``policy-making officer'' and

otherwise would be interpreted in accordance with Rule 16a-1(f) under

the Exchange Act.39 As suggested in the comments, these changes

should substantially reduce the number of persons for whom such

Schedules must be prepared and filed under the reproposed rule.

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\3\917 CFR 240.16a-1(f).

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Reproposed Item 5 to Form 13H would facilitate the new flexible

rules for aggregation. Item 5(a) would require the large trader to list

all commonly owned or commonly controlled persons whose accounts are

aggregated into the particular Form 13H that independently would be a

large trader (i.e., aggregated accounts). Conversely, Item 5(b) would

require the large trader to list all other commonly owned or controlled

large traders that independently filed Form 13H and that could have

been, but were not, aggregated into the particular large trader's Form

13H (i.e., disaggregated accounts). Again, the reproposed Instructions

would caution large traders that the information supplied in Item 5

must accurately reflect their choice for aggregation or disaggregation

of accounts.

The reproposed Schedules to new Items 6 through 8, which gather

account information, address the concerns expressed in the comments and

reorganize, substantially reduce, or eliminate much of the information

regarding a large trader's accounts that may have been captured by the

proposed Schedules. These reproposed Schedules have been completely

redesigned to require the identification of only one contact person for

each Schedule and establish a ``single-line-item'' type of account

listing. The reproposed Instructions indicate that the proposed

qualifications for designated contact persons would be retained without

meaningful changes. The reproposed Instructions also advise large

traders that they may submit internally produced lists of accounts,

provided that such lists contain all required information in a format

substantially similar to the applicable Schedule.

The new account Schedules also have been reorganized to track the

three capacities in which a large trader may act with respect to a

given account (i.e., owner, controller, or custodian/nominee). The

reproposed Schedules would capture different combinations of large

trader capacities, based upon the large trader's knowledge of accounts

and the extent of beneficial ownership disclosure made to the carrying

broker-dealer. Reproposed Schedules 6a and 6b would be used by those

market participants who own accounts.

Reproposed Schedules 7a and 7b would be used by market participants

who control accounts owned by others. These Schedules have been

redesigned to indicate that accounts controlled by the large trader

that are owned by small or otherwise infrequent traders would not be

required to be specifically listed on these Schedules. Instead,

reproposed Item 2 of Schedule 7a would capture general information

about fully disclosed ``non-large trader'' accounts controlled by the

large trader (i.e., the total number of such accounts and broker-

dealers carrying them). If applicable, information regarding other

large traders whose activity may be controlled by the large trader

through one of the listed accounts would be provided in reproposed Item

3 of Schedule 7a and Item 2 of Schedule 7b.

Lastly, Schedule 8 would be used by those broker-dealers, banks,

and trust companies that market their clearing or depository services

independently from their other brokerage or investment management

services. It should be noted that reproposed Schedules 7b and 8

incorporate the ID System to the extent that they permit a large trader

to list the applicable ID System numbers or LTIDs of the custodian or

nominee for an omnibus account and other interested parties (i.e.,

owners and controllers). The Commission believes that, due to the wide-

spread use and automated nature of the ID System, most of these numbers

are routinely communicated among, and maintained in an automated

fashion by, market participants. The disclosure of other large traders

required by these Schedules would provide an important and common basis

for disaggregation.

Rarely would a large trader be required to complete all five of

these reproposed Schedules. The Commission believes that such a filing

probably would occur only if a diversified financial services company

decided to aggregate the accounts of all of its divisions,

subsidiaries, or affiliates into a single Form 13H filing.

The complexity of the Form 13H disclosures under the reproposed

rules would be greatest for a single aggregated filing and would become

progressively less complex for multiple Form 13H filings. Generally,

the large trader's organizational structure and business practices,

combined with the reproposed requirements of Item 2, Item 5, and the

account Schedules, would dictate the complexity of a Form 13H filing.

The number of LTIDs that would be assigned varies directly with the

number of Form 13H filings. The commenters indicate that some broker-

dealers and large traders may prefer to be assigned many LTIDs for

supervisory purposes while others may prefer a single LTID for

confidentiality reasons. In this respect, the SIA suggested that a

broker-dealer be permitted to use its LTID for the confidential

numbered accounts of its customers. Similarly, a few commenters,

primarily foreign financial services holding companies or universal

banks, asserted that the LTID disclosure requirements may cause them to

breach ``Chinese Walls'' between investment banking, investment

advisory, market making, or brokerage units. The Commission believes

that these entities would be able to avoid this result under the

reproposed rules by carefully aggregating or disaggregating accounts.

The Commission acknowledges that excessive aggregation or

disaggregation of commonly owned or controlled accounts may increase

the overall costs and burdens on large traders and the Commission. The

probability of receiving a request for disaggregation, and the cost

thereof, also would vary directly with the extent of aggregation chosen

by a large trader. The Commission would remind all market participants

to evaluate their business practices and weigh the costs and benefits

of aggregation or disaggregation in light of all the considerations

outlined above.

The Commission believes that perhaps the most important revisions

to proposed Form 13H are the reproposed set of General and Special

Instructions.\40\ These new Instructions provide answers to many of the

specific questions raised in the comments. The Instructions provide all

of the pertinent definitions, the rules for aggregation, and examples

of who would be a large trader and what information must be provided on

Form 13H. The reproposed Instructions also provide guidance and cross-

references to the reproposed rule, other related instructions, and

particular burden reducing features or alternatives of reproposed Form

13H. Accordingly, the Commission would encourage all market

participants to carefully review the reproposed General and Special

Instructions for Form 13H before completing and filing Form 13H.

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\40\See infra Appendix A.

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b. Form 13H Examples. Assume a trustee for a large pension fund is

not registered with the Commission and personally manages 75% of the

pension's assets. Assume further that the pension trustee delegates

full discretionary investment authority over the remaining 25% of the

pension's total assets to several investment advisers (e.g., a growth

stock adviser, an index arbitrager, and a portfolio hedging

strategist).

This pension trustee would be required to complete one of the

reproposed Schedules to Item 4 depending on the organizational type of

the trustee (i.e., individual, corporation, or partnership). With

respect to the 75% of the pension's total assets that the pension fund

trustee personally manages, he would be deemed to own and control the

accounts and would know the carrying broker-dealers and account

numbers. The pension fund trustee, therefore, would list these accounts

on reproposed Schedule 6a.

Depending on the nature of the delegations of authority to each of

the advisers, the pension trustee may not know the broker-dealers the

advisers use to execute trades or maintain accounts. Accordingly,

reproposed Schedule 6b has been designed to capture the information

that the pension trustee knows (i.e., the advisers' names, addresses,

numbers, and type of delegation), and reproposed Schedules 7a and 7b

would capture the information in the possession of the adviser (i.e.,

carrying broker-dealer, account number, disclosure of ownership, and

other large traders).

Assuming that the advisers are large traders and were registered

with the Commission, they would list Form BD or ADV in Item 2 of their

Form 13Hs, and therefore, would be exempt from the requirements of Item

4. It should be noted that if any of these advisers is not a large

trader, then such adviser would not file Form 13H under the reproposed

rules. In such cases, the Commission would be able to identify and

contact the non-large trader adviser, if necessary, through the

information provided by the pension trustee on its Schedule 6b to Form

13H.

In addition, assume that the trustee of the pension fund also

engages the services of a prime broker, bank, or trust company to act

only as the custodian or nominee for omnibus accounts that are owned

and controlled by the pension trustee or owned by such trustee and

controlled by the different advisers. In this case, the pension fund

trustee would list on its Form 13H the omnibus accounts for which he or

she is the owner and controller on Schedule 6a and the delegations of

investment discretion on Schedule 6b. The advisers that control the

pension fund's trading through the omnibus accounts would list such

accounts on Schedule 7b of their Form 13Hs.

The prime broker, bank, or trust company acting only as custodian

or nominee for all of the omnibus accounts (i.e., the custodian or

nominee large trader) would list such accounts, carrying broker-dealer,

and the relevant controllers on reproposed Schedule 8. It should be

noted that if the omnibus account custodian or nominee also controlled

these accounts, in whole or in part, then it would complete Schedule 7b

instead.\41\ The custodian or nominee large trader would be in

possession of the information required by Schedule 7b or 8, for the

following reasons. First, it is the carrying broker-dealer's customer

with respect to the omnibus accounts and, therefore, would be required

to complete a new account application and provide all other information

requested by the broker-dealer with respect to settlement instructions

and the persons authorized to effect transactions through the accounts.

Second, the various advisers and the trustee of the pension fund, to

the extent that he or she controls transactions, would be required by

the reproposed rule to disclose such information to the prime broker,

bank, or trust company acting as custodian or nominee.\42\ Finally, if

the custodian bank or trust company was an issuer of publicly-traded

securities, it may list Form 10-K or 10-Q in Item 2 and would not be

required to complete Item 4 on its Form 13H.

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\41\Of course, if the pension trustee retained the prime broker,

bank, or trust company to act only as agent for settlement of its

fully disclosed accounts, then such agent would not be deemed to own

such account and would not be a large trader required to file Form

13H and Schedule 8.

\42\See infra Section III.B.3., with respect to this required

disclosure under reproposed paragraph (b)(2)(ii).

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Another example of how the reproposed Schedules to Form 13H may be

applied would be where a registered investment adviser for a mutual

fund complex chooses to file one Form 13H, covering all of the accounts

controlled for affiliated or unaffiliated investment companies.

Assuming that each mutual fund independently would be a large trader,

they would be listed in Item 5(a) of the adviser's Form 13H. The Form

ADV of the adviser and each investment company's registration statement

or periodic reports also would be listed in Item 2 of the adviser's

Form 13H. If the accounts through which the adviser effects

transactions are fully disclosed as to ownership by a particular

investment company within the fund complex, the adviser would complete

Schedule 7a. Alternatively, if such accounts do not disclose the

particular investment company for whom the adviser is effecting

transactions (i.e., are maintained on an omnibus basis), then the

adviser would complete Schedule 7b.

The Commission believes that the revisions to the reproposed Form

13H and Instructions would dispel many of the misconceptions regarding

the information that would be required to be disclosed on Form 13H. The

revised Schedules to Form 13H also minimize the burdens of the

reproposed rule by utilizing existing ID System practices and

procedures for disclosure and maintenance of information among large

traders and other parties to multi-layered accounts. The Commission

specifically solicits comments on the appropriateness of all the

changes found in reproposed Form 13H and Schedules.

3. Disclosure of Large Trader Status

Many of the commenters expressed concerns that the proposed

disclosure requirements would cause overlapping, confusing, or

unnecessary disclosures by more than one large trader for a given

account. The broker-dealer commenters also indicated that the cost of

modifying automated brokerage accounting systems to maintain and report

multiple LTIDs for a single account or trade would be substantial.

The reproposed rule would retain the proposed LTID assignment

system43 and would modify the duty of large traders to disclose

their LTIDs and accounts to broker-dealers. The reproposed rule also

would require similar disclosures of information to custodians or

nominees and large traders that control transactions.

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\4\3Upon filing Form 13H a large trader would be assigned an

LTID by the Commission. See Proposing Release, 56 FR 42553, at text

immediately following n. 37.

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Reproposed paragraph (b)(2)(i) would require a large trader who

controls a fully disclosed account or the custodian or nominee for an

omnibus account to disclose its LTID and accounts to the carrying

broker-dealers. Hence, under the reproposed rules, each large trader

account should have only one LTID number associated with it, namely the

LTID number of the controlling large trader or of the custodian or

nominee large trader.

The Commission notes that the reproposed definition of control

states that an account would be controlled by the owner of the account.

Consequently, if an account is controlled only by its owner, then the

owner would be required to disclose its LTID to the carrying broker-

dealer. This duty also would apply to fully disclosed accounts of small

or otherwise infrequent traders whose accounts are controlled by large

traders, even though these accounts would not be listed on the

reproposed Schedules to Item 7.

Paragraph (b)(2)(i) of the reproposed rule would effectively

eliminate the majority of situations where multiple LTIDs would be

disclosed to a broker-dealer for a single account. The Commission

believes that the only situation where more than one LTID would be

disclosed to a broker-dealer for a single account would be where more

than one large trader controls transactions in an account that is fully

disclosed as to ownership. These situations would include fully

disclosed accounts controlled by their owner and another adviser or

such accounts controlled by two or more advisers.

Reproposed paragraph (b)(2)(ii) would require a large trader who

controls omnibus accounts to disclose its LTID or ID System number to

the broker-dealer or large trader acting as the custodian or nominee

for such account. Similarly, reproposed paragraph (b)(2)(iii) would

require a large trader that owns accounts but has delegated full or

limited discretionary investment authority to another person to

disclose its LTID or ID System number to such person. These duties are

coordinated with the filing requirements for Schedules 7a, 7b, and 8 to

reproposed Form 13H.44

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\4\4See supra Section III.A.2.b., for a discussion of the

omnibus account identification and disaggregation duties that attach

to the filing of Schedules 7b and 8.

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The Commission acknowledges that reproposed paragraphs (b)(2) (ii)

and (iii) may cause multiple LTIDs or ID System numbers to be disclosed

to custodian or nominee and controlling large traders, respectively.

The Commission believes that these required disclosures of large trader

status would not be overlapping or unnecessarily burdensome and would

utilize existing ID System practices and procedures. The Commission

also believes that these disclosure requirements would minimize the

amount of communication among members of an investment complex that

would be necessary to complete Form 13H. Moreover, these changes to the

proposed rule would conform with the various rules and regulations that

require financial institutions of all types to identify the beneficial

owners of accounts, confirm trades, and maintain possession and control

of customer funds and securities.

The Commission believes that the revisions to the reproposed rules

for disclosure of large trader status incorporate many of the

recommendations made by the commenters and reduce the burdens imposed

on market participants. The Commission solicits comment on this use of

the ID System and whether other ID System procedures or information

would further the purposes of the Market Reform Act.

4. Inactive Filing Status

In the Proposing Release, the Commission specifically solicited

comments on various means of minimizing the impact of the proposed rule

on small or otherwise infrequent traders. The Commission received many

comments in this respect and all were supportive of minimizing the

impact of the proposed system on small or otherwise infrequent traders.

Many of the commenters suggested that an annual activity threshold

could be used to limit the impact of the proposed system on infrequent

large traders. The commenters did not identify any common trading

objectives or characteristics of small or infrequent traders that may

inadvertently become large traders, other than those suggested in the

Proposing Release.45

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\4\5See Proposing Release, 56 FR 42551, at nn. 12-14 and

accompanying text.

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The reproposed rule would implement a new ``inactive filing

status,'' pursuant to paragraph (b)(3) of the reproposed rule. This new

paragraph provides that large traders whose aggregate transactions

during the previous full calendar year, which do not reach the

identifying activity level and an aggregate calendar year total of

2,000,000 shares or fair market value of $30,000,000, shall become

inactive upon filing Form 13H. This threshold would incorporate the

identifying activity threshold and would add an ``aggregate calendar

year activity threshold.'' Aggregate calendar year activity would be

computed in accordance with the rules for aggregation of transactions

found in paragraph (c)(2) of the reproposed rule.

The reproposed Instructions explain that this new inactive status

would be invoked by checking the appropriate box on the cover page when

filing an annual Form 13H for the calendar year in which the large

trader was inactive. Once a large trader has made an ``inactive

filing,'' he would be exempt from the reproposed annual filing

requirements contained in paragraph (b)(1)(ii) and the LTID disclosure

requirements of paragraph (b)(2). However, if an inactive large trader

subsequently effects transactions that reach the identifying activity

level, then the large trader again would be required to reactivate its

large trader status by filing Form 13H within 10 business days. The

reproposed Instructions indicate that such ``reactivated large

traders'' would retain the LTID initially assigned to them by the

Commission.

The Commission believes that this new inactive filing status would

eliminate the burdens of the identification requirements on small or

otherwise infrequent traders and, therefore, would accomplish the

objectives of the Market Reform Act. Nevertheless, the Commission

solicits comments on whether this new provision would adequately reduce

or eliminate the impact of the reproposed rule on natural persons that

infrequently effect large trades. The Commission also solicits

suggestions for other means of eliminating the burden of the reproposed

rule on natural persons.

5. Other Information

Paragraph (b)(4) of the reproposed rule has been added to the

identification requirements to assure that the Commission has the

authority to obtain, from time to time, other descriptive or clarifying

information regarding accounts, or transactions effected through

accounts, identified on Form 13H. This new paragraph would provide the

Commission with the express authority to obtain other information from

large traders that is not otherwise disclosed on Form 13H and may be

crucial for understanding or analyzing information collected through

the system. The Commission believes that the reproposed rule would not

be unduly burdensome and would assure that the Form 13H filing

requirements accomplish the objectives of the Market Reform Act.

C. Recordkeeping Requirements for Brokers and Dealers

Section 13(h)(2) of the Exchange Act authorizes the Commission to

prescribe recordkeeping requirements for large trader activity that it

deems necessary or appropriate in the public interest, for the

protection of investors, or otherwise in furtherance of the purposes of

the Exchange Act.\46\ The Commission also is authorized to conduct

reasonable periodic, special, or other examinations of all records

required to be made and kept pursuant to the Rule.\47\ Paragraph (d) of

the reproposed rule would implement the recordkeeping provisions of

section 13(h)(2) of the Exchange Act.

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\46\See 15 U.S.C. 78m(h)(2) (1990).

\47\See 15 U.S.C. 78m(h)(4) (1990).

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1. General Requirements

The general recordkeeping requirements, which contain minor changes

from the proposed rule,\48\ would provide that every registered broker-

dealer that carries accounts for itself or others shall make and keep

records of transactions effected directly or indirectly by or through

such broker or dealer for all large traders. In addition, as

specifically authorized by the Market Reform Act, the reproposed rule

also would require that broker-dealers keep records of transactions for

each person such broker or dealer knows or has reason to know is a

large trader based on transactions effected by or through such broker

or dealer. Further, paragraph (d)(4) of the reproposed rule would

provide that such records shall be kept for a period of three years,

the first two in an accessible place, in accordance with Rule 17a-4(b)

under the Exchange Act.\49\

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\48\See Proposing Release, 56 FR 42560 (proposed text).

\49\17 CFR 240.17a-4(b).

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The reproposed rule would explicitly provide that only registered

broker-dealers that carry accounts for themselves or others would be

affected. The term ``registered broker-dealer'' is defined in Section

3(a)(48) of the Exchange Act as a broker or dealer registered or

required to be registered pursuant to Section 15 or 15B of the Exchange

Act.\50\ Executing broker-dealers and prime brokers that do not carry

large trader accounts would not be subject to the recordkeeping

requirements of paragraph (d) of the reproposed rule, notwithstanding

that these persons may perform other specific tasks for large traders

and may be large traders. The Commission believes that these

modifications would clarify the applicability of the general

recordkeeping requirements of the reproposed rule.

---------------------------------------------------------------------------

\50\See 15 U.S.C. 78c(a)(48) (1988).

---------------------------------------------------------------------------

2. Elements of Transaction Information

Paragraph (d)(2) of the reproposed rule would provide the elements

of information required to be maintained for all transactions. The

Commission believes that these elements incorporate, to the extent

possible, existing recordkeeping requirements under the Exchange Act

and SRO rules for the electronic bluesheet system and, thereby,

minimize the burdens imposed on registered broker-dealers.

Due to changes to the LTID disclosure requirements, the

recordkeeping requirement for LTIDs found in paragraph (d)(2)(x) of the

reproposed rule would now require a broker-dealer to maintain only the

LTID of the controllers of a fully disclosed account, or the custodian

or nominee of an omnibus account. In addition, paragraphs (d)(2)(v) and

(d)(2)(vii) of the reproposed rule have been modified to incorporate

suggestions made by the commenters. Paragraph (d)(2)(v) has been

modified to include the designation of exercises or assignments of

option contracts. Paragraph (d)(2)(vii) has been modified to clarify

that the personal accounts of officers, directors, or employees of a

broker-dealer are not required to be aggregated with accounts owned or

controlled by such broker-dealer.

In addition, the reproposed rule includes three new elements that

the Commission believes are necessary to reduce the burden of

maintaining multiple LTIDs and execution times. First, paragraph

(d)(2)(xi) of the reproposed rule would provide that broker-dealers

must maintain the ID System numbers of agents, broker-dealers,

institutions, and other interested parties otherwise maintained for the

account for which a transaction is effected.\51\ The use of ID System

numbers would have the effect of limiting the number of LTIDs that a

broker-dealer must maintain and report with respect to a given account.

The Commission understands that broker-dealers currently maintain these

ID System numbers in their automated name and address records.\52\ The

Commission specifically solicits comments on the appropriateness of the

use of ID System numbers and whether other information, systems, or

procedures may further reduce the burden of multiple LTID

recordkeeping.

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\51\See supra n. 17, describing ID System participants.

\52\These automated records, and the ID System numbers contained

therein, provide the data processing mechanism for the automated

issuance of affirmations (i.e., confirmations) to the respective

parties to an ID System trade. Under the proposed Interactive ID

System, a Standing Instructions Database (``SID'') is planned to be

implemented. This database would establish a standing repository for

customer account and settlement information furnished by

institutions, agents, and broker-dealers. This information would

include the customer name, agent for the customer, the agent's

internal account number, and interested parties. When entering trade

data to the ID System, a broker-dealer could simply refer to account

designations contained in the SID, and the system would

automatically add details (e.g., customer name, agent, and

interested parties) to the confirmations of the trade. The

Commission notes that, absent large trader recordkeeping and

reporting requirements, the proposed SID may eliminate the need for

broker-dealers to maintain this information in their internal

records. See Securities Exchange Act Release No. 33010 (October 4,

1993), 58 FR 53007 (October 13, 1993).

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Second, paragraph (d)(2)(xii) of the reproposed rule would provide

that broker-dealers must maintain the code, identification, or sequence

number assigned to a transaction that was routed or effected through an

automated order routing system maintained by an SRO, such as the NYSE

SuperDOT system. These numbers are uniformly maintained and used by

broker-dealers and SROs to route reports of executed transactions to

the appropriate broker-dealer branch offices or to research the status

of unexecuted orders. The Commission would use these numbers to ``link

or match'' transaction reports to the applicable SRO audit trail, in

order to determine or verify the reported execution time.

Finally, paragraph (d)(2)(xiii) of the reproposed rule would

establish a miscellaneous or unspecified field that would provide the

Commission with flexibility to accommodate future changes or problems.

This flexibility also could be used to facilitate specific requests

that would reduce the burdens of the reproposed system for a given

broker-dealer. The Commission believes that the reproposed

recordkeeping requirements would assure that the information necessary

to accomplish the objectives of the Market Reform Act would be

maintained. The Commission also believes that these reproposed

requirements would reduce burdens substantially.

D. Trade Reporting Requirements of Brokers and Dealers

Section 13(h)(2) of the Exchange Act specifically authorizes the

Commission to require registered broker-dealers to report transactions

that equal or exceed the reporting activity level effected by or

through such broker-dealer for persons who they know are large traders,

or any persons who they have reason to know are large traders on the

basis of transactions effected by or through such broker-dealers.\53\

The Commission also is authorized to require broker-dealers to report

transactions to the Commission or an SRO designated by the Commission

on the morning following the day on which the transactions were

effected or otherwise immediately upon request of the Commission or

designated SRO. Further, the Commission is authorized to require that

such transaction reports be transmitted in any format that it may

prescribe, including machine-readable form. The Commission is

reproposing paragraph (e) to implement the transaction reporting

provisions of Section 13(h)(2) of the Exchange Act.

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\53\15 U.S.C. 78m(h)(2) (1990).

---------------------------------------------------------------------------

1. General Requirements

The general reporting requirement would provide that every

registered broker-dealer that carries accounts for large traders, or

other persons for whom records must be maintained, shall electronically

report transactions in machine-readable form and in accordance with

instructions issued by the Commission. Transaction reports would be

required to contain all elements of information for transactions

effected through accounts carried by such broker-dealer for large

traders and other persons for whom records must be maintained, which

equal or exceed the reporting activity level. The Commission continues

to propose that transaction reports be transmitted through the existing

electronic bluesheet system.\54\ The special reporting requirement for

trades of ``unidentified large traders,'' has been reorganized without

changes into paragraph (e)(5) of the reproposed rule.

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\54\See Proposing Release, 56 FR 42557, at text accompanying nn.

85-86.

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2. Reporting Activity Level

The Commission expressly solicited comment on the appropriateness

of the proposed reporting activity level. Generally, the commenters

felt that the threshold was too low, and eight recommended higher

levels that ranged from a low of 5,000 shares and $200,000 to a high of

100,000 shares and $5 million. In response to these comments, the

proposed reporting activity level has been modified.

The reporting activity level contained in paragraph (e)(2)(i) of

the reproposed rule would increase the thresholds contained in the

proposed rule from 1,000 to 2,000 shares, and from a fair market value

of $40,000 to $100,000. The reproposed rule also would add a ``calendar

day where the account is located'' time frame, which would address

today's global trading environment.55 As noted in the Proposing

Release, the reproposed rules for aggregation would not apply to the

reporting activity level.56

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\5\5 For example, a registered investment company whose

portfolio is composed of international securities may enter orders

to effect transactions in domestic, European, and Asian securities

markets. These orders may be effected on different calendar days

where the account is located because of the various time zones in

which the markets are located. As a consequence, the Commission

notes that it may need to request 13H transaction reports for the

calendar days immediately preceding or following the calendar day on

which a significant market event occurred.

\5\6See Proposing Release, 56 FR 42556, at n. 68.

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In addition, the reproposed rule would recognize that broker-

dealers may prefer to report or ``dump'' all transactions in a given

security.57 In this regard, new paragraph (e)(2)(ii) of the

reproposed rule would be added to permit broker-dealers to report

transactions that are less than 2,000 shares or fair market value of

$100,000. Finally, paragraph (e)(2)(iii) of the reproposed rule

clarifies the proposed reporting provision for program trades and

states that each transaction that is part of a program trade shall be

reported regardless of share quantity or fair market value. The

Commission believes that the reproposed reporting activity level would

reduce the burden of the transaction reporting requirements.

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\5\7See Proposing Release, 56 FR 42556, at n. 74.

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3. Multiple Large Trader Identification Numbers

The broker-dealer and bank commenters indicated that significant

costs would be incurred for enlarging systems and manually loading

multiple LTIDs into their automated name and address records.58

This concern was a direct result of the proposed definition of a large

trader and broad requirements for disclosure, recordkeeping, and

reporting of LTIDs of persons who own and control a given account. This

concern was compounded with respect to the proposed treatment of

omnibus accounts.59 The commenters generally suggested that tax

identification numbers or ID System numbers be used to alleviate this

burden.

---------------------------------------------------------------------------

\5\8See Memoranda to SEC File No. S7-24-91 from the Division of

Market Regulation dated March 20, 1992, which outline this issue as

discussed at meetings with the SIA and the American Bankers

Association.

\5\9See Proposing Release, 56 FR 42557, at text accompanying n.

79.

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The Commission has sought to reduce the burden of multiple LTIDs.

The Commission has chosen to accomplish this objective through a

narrowed definition of a large trader, reduced Form 13H information,

limited disclosure of LTIDs, the use of ID System numbers, and trade

reporting requirements that incorporate these changes.

The SIA generally expressed its concurrence with this solution to

the concerns with the multiple LTID reporting requirements.60 The

Commission, however, specifically solicits comments on the transaction

reporting aspects of the reproposed use of ID System numbers and any

other information, systems, or procedures that would more effectively

accomplish the objectives of the Market Reform Act.

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\6\0See Memoranda to SEC File No. S7-24-91 from the Division of

Market Regulation dated June 8, 1992 and June 11, 1992 outlining

discussions with the American Bankers Association and the SIA,

respectively. See also supra n. 52, however, describing the Standing

Instructions Database features of the proposed Interactive ID System

and the potential elimination of the need for broker-dealers to

maintain such information.

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4. Execution Times

Due to the anticipated burden of automating execution times, the

Commission proposed and solicited comments on a two year plan to phase-

in the automation of execution time reporting requirements. The

Commission received substantial comments from broker-dealers regarding

the proposed execution time reporting requirements. One commenter

acknowledged that automated execution times were essential for reliable

time-sequenced trading reconstructions and expressed support for the

proposed two year phase-in plan. However, the majority of the

commenters asserted that the development and implementation of

automated systems for maintaining and reporting execution times would

be costly.

The commenters generally explained that in order to comply with the

proposed rule, broker-dealers would be required to develop and

implement so-called ``automated order match systems.'' These order

match systems would automatically link or match the execution time

recorded on customer order tickets with the execution time recorded on

the corresponding trade tickets prepared on the floor of an exchange.

Without these systems broker-dealers would be required to manually

research and identify the execution time for each customer trade.

Five broker-dealers and the SIA, on behalf of its members, supplied

cost estimates. These cost estimates ranged from a high of $8.5 million

to a low of $17,000.61 These cost estimates included many

different items, some of which were not intended by the proposed rule.

For example, many of these estimates included the cost of developing

sophisticated systems that would fulfill the obligation of broker-

dealers to supervise compliance with the proposed rule. These systems

presumably would identify related accounts that may be required to be

aggregated, through computer systems that employ forms of ``artificial

intelligence.''

---------------------------------------------------------------------------

\61\At the request of the Division of Market Regulation, 16

broker-dealers subsequently submitted cost estimates ranging from

$8.6 million to $100,000.

---------------------------------------------------------------------------

During the review of these cost estimates, it appeared to the

Commission that the magnitude of the cost may be dependent upon the

type of business conducted by a broker-dealer. The SIA acknowledged

that broker-dealers with large retail client bases, branch networks, or

widely marketed clearing services would be more likely to have

implemented an order match system as a necessary cost of doing such

business. Conversely, broker-dealers that primarily have institutional

clients and few branches would be less likely to have automated order

match systems and the ability to enhance their automated systems in a

cost-effective manner.

The commenters also indicated that ``average price'' trades and

accounts compound their execution time concerns exponentially.62

In addition, the commenters noted that a Commission request for

transaction reports would likely come at times of severe market stress,

which typically stretch broker-dealer trade processing capabilities to

their limits. Finally, as a result of the proposed next business day

reporting time frame, the commenters indicated that automation would be

the only feasible means to assure compliance.

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\6\2Average price trades usually entail the execution of one

large order, for one or more customers, through many small trades at

varying prices throughout a given day. Customers who employ a

broker-dealer, bank, or trust company as their centralized custodian

and agent for settlement typically request that trades be confirmed

and submitted for settlement as one trade at an average price in

order to minimize the ``ticket charges or fees'' levied by the

custodian. For example, a 150,000 share order may be filled through

the execution of 100 trades of 1,500 shares each, at 50 different

prices, and beginning at 9:30 a.m. and ending at 4:00 p.m. This

average price trade may be posted to the customer account, and

settled, as one ``ticket'' for 150,000 shares at an average price,

without any indication of the many smaller lots, different prices,

or actual execution times.

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A few commenters suggested alternatives for reducing this burden

that included requesting execution times on a need-to-know basis,

lengthening the reporting time frame, and postponing the effectiveness

of the requirements to see how frequently the data would be required.

From the outset, the Commission has sought alternative solutions that

would minimize this burden while achieving the fundamental purpose of

the large trader reporting provisions of the Market Reform Act. The

Commission staff, SIA, and SIAC have not identified existing industry

systems that would gather execution times for investor trading activity

in a simple and accurate manner.

Three alternatives that would require the development of new

systems, however, were proposed. First, it was suggested that ``branch

or DOT'' sequence numbers could be used in conjunction with SRO audit

trail data. While this suggestion appeared to be workable with respect

to ``system orders,''63 the SIA and SIAC agreed that this proposal

would still require some form of automated order match system and may

be considered by some broker-dealers to be equally as burdensome with

respect to ``manual orders.''64

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\6\3``System orders'' are those orders that are routed and

reported through SRO order routing systems and are automatically

posted to back-office accounting systems by the system. These

orders, generally, may be characterized as orders for small

individual investors or program trades.

\6\4``Manual orders'' are those orders that are routed and

reported manually over the telephone or telegraph and are manually

posted to back-office accounting systems by broker-dealer personnel.

These orders, generally, may be characterized as large block trades

for institutional investors.

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Second, after acknowledging that system order execution times did

not pose a significant problem, the SIA proposed the development of

computer algorithms that would match ``order entry times'' with SRO

audit trail data to determine the execution time of manual orders.

Third, the Division of Market Regulation proposed a hybrid of these

alternatives that bifurcates the execution time reporting requirements

along the lines of system and manual orders.65

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\6\5See Memoranda to SEC File No. S7-24-91 from the Division of

Market Regulation dated April 16, 1992, May 7, 1992, and June 11,

1992 outlining meetings where these proposals were discussed.

---------------------------------------------------------------------------

After carefully weighing costs and benefits, the Commission has

decided to repropose the Division's alternative for reducing the

burdens of the execution time reporting requirements. The reproposed

reporting requirements are found in new paragraphs (e) (3) and (4).

Paragraph (e)(3) of the reproposed rule would provide that with

respect to system orders, all transaction information required to be

maintained under the reproposed rule, including execution time, would

be required to be reported to the Commission or an SRO designated by

the Commission before the close of business on the day specified in a

request for such information. As indicated in the Proposing Release,

the Commission would not require reports to be submitted prior to trade

comparison and would consider pertinent market conditions as well as

the capabilities of the industry's trade processing facilities.66

Moreover, under the reproposed rule, the Commission may require the

transmission of transaction reports after final settlement because of

the inclusion of cancellations and corrections within the definition of

a transaction.67

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\6\6See Proposing Release, 56 FR 42557, at n. 84 and

accompanying text.

\6\7See supra Section III.A.1.e., for a discussion of the

definition of a transaction.

---------------------------------------------------------------------------

Paragraph (e)(4)(i) of the reproposed rule would provide that with

respect to manual orders, all transaction information required to be

maintained, except execution time, would be required to be reported

before the close of business on the day specified in a request for such

information. Lastly, new paragraph (e)(4)(ii) of the reproposed rule

would provide that the execution times of manual order transactions,

which were initially reported without execution times, would be

required to be reported within 15 calendar days after a subsequent

request for such information. It should be noted that the Commission

may request that broker-dealers provide such information for entire

transaction report submissions, individual transactions, or a group of

related transactions. Further, these manual order execution times would

be required to be transmitted electronically, in machine-readable form,

with all of the previously reported information regarding each of the

manual order transactions for which execution times were requested.

The Commission would carefully use these new reporting requirements

to minimize the extent of extraneous information gathered through the

system. The combination of the reporting requirements for execution

times and sequence numbers would enable the Commission to generate

accurate reconstructions of all large trader activity. Although these

new provisions may slow down the completion of trading reconstructions,

the Commission believes that the resulting analyses of trading

reconstructions will be superior to any previous efforts in terms of

accuracy, completeness, and timeliness. The SIA expressed its

concurrence with this solution to the execution time reporting

requirement concerns.68

---------------------------------------------------------------------------

\6\8See Memorandum to SEC File No. S7-24-91 from the Division of

Market Regulation dated June 11, 1992 indicating the SIA's

concurrence.

---------------------------------------------------------------------------

The Commission believes that the reporting requirements contained

in the reproposed rule incorporate all existing information or systems

and would minimize associated burdens. Further, the Commission believes

that these requirements would strike a fair and reasonable balance

between the costs of such reporting and the Commission's need to obtain

execution times. Finally, the Commission believes that the reproposed

reporting requirements would establish an efficient means for analyzing

multi-layered accounts.

E. Supervisory Safe Harbor

Section 13(h)(2) of the Exchange Act provides a mechanism for

supervision of the large trader reporting system by authorizing the

Commission to establish rules for recordkeeping and reporting of

transactions effected by persons a broker-dealer ``knows or has reason

to know'' is a large trader, based on transactions effected directly or

indirectly by or through such broker-dealer.69 As proposed, the

duty to supervise would apply to compliance with the identification

requirements and would be imposed on all broker-dealers and other large

traders that effect transactions through, or maintain omnibus accounts

with, broker-dealers.70

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\6\915 U.S.C. 78m(h)(2) (1990).

\7\0See Proposing Release 56 FR 42554, at text accompanying nn.

44-46, 53-54, and 108.

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A number of comments on this aspect of the proposed rule were

received from broker-dealers and banks. These comments revolved around

the scope of this duty and sought clarification concerning the steps to

be taken to avoid liability for their customers' intentional or

unintentional failure to comply with the identification requirements of

the proposed rule.71 Many of the commenters focused on the lack of

automated systems for cross-referencing or aggregating accounts that

may be commonly owned or controlled. The commenters extrapolated from

this premise that the development of automated systems for this purpose

would be extremely expensive and unduly burdensome. The commenters also

suggested that the principal compliance burden should be placed on

large traders and that an objective standard or ``safe harbor'' should

be created.

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\7\1See Proposing Release, 56 FR 42554, at n. 46, for the

administrative remedies that the Commission may impose for a failure

to supervise. The Commission also notes that it may institute

proceedings and impose any other remedies that it may deem

appropriate.

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The Commission emphasizes that the reproposed rule places the

principal burden of compliance with the identification requirements on

large traders. The Commission, however, also believes that some form of

supervisory requirements and systems, which are consistent with the

self-regulatory framework of the Exchange Act, are necessary to assure

that the objectives of the Market Reform Act are fulfilled.

Paragraph (f) of the reproposed rule would clarify and minimize the

burden of the duty to supervise imposed by the ``reason to know''

provisions of Section 13(h)(2) of the Exchange Act. This duty to

supervise would apply to registered introducing or correspondent

broker-dealers that clear their transactions on an omnibus basis

through a self-clearing broker-dealer. Absent other indications, self-

clearing broker-dealers would not normally be expected to supervise

compliance by such broker-dealers or their customers for whom

transactions are effected through omnibus accounts.

The Commission acknowledges that this duty to supervise would

impose additional burdens on broker-dealers. Accordingly, paragraph (f)

of the reproposed rule would establish a ``safe harbor'' for the

supervisory duty. This new paragraph would initially provide that

registered broker-dealers would not be deemed to know or have reason to

know that a person is a large trader if it does not have actual

knowledge that a person is a large trader and has established policies

and procedures reasonably designed to assure compliance with the

identification requirements of the reproposed rule. Paragraphs (f) (1)

and (2) of the reproposed rule provide the specific elements that would

be required for the supervisory safe harbor.

Paragraph (f)(1) of the reproposed rule requires the establishment

of systems ``reasonably designed to detect and identify'' persons who

have not complied with the identification requirements. This paragraph

incorporates the ``reason to know'' standard and clarifies that, with

respect to groups of accounts that may be identified as large traders

(i.e., commonly owned or controlled accounts), policies and procedures

would be within the safe harbor if they are reasonably designed to

detect and identify such groups of accounts based on account name, tax

identification number, or other readily available information.

The Commission would deem ``other readily available information''

to include, for example, those instances where a single customer

effects the requisite transactions through a single registered

representative, trading desk, or branch office in his or her personal

accounts, accounts of family members, or accounts of others, pursuant

to written trading authorizations. Similarly, customer authorization to

transfer funds or securities among accounts in order to receive

approval for trading activities, meet margin requirements, or to settle

transactions, may be deemed other readily available information.

Paragraph (f)(2) of the reproposed rule also would require that

broker-dealer supervisory policies and procedures contain systems

reasonably designed to inform persons and large traders of their

obligations to file Form 13H and disclose their large trader status. In

this respect, questions and informative disclosures on new account

applications, as well as annual notices to identified and unidentified

large traders, among other things, would be deemed by the Commission to

fulfill this element of the safe harbor.

The Commission notes that the elements of the safe harbor do not

specifically require automated systems, employee training programs, or

any other systems or procedures. The adequacy of supervisory procedures

would depend on the nature and characteristics of a broker-dealer's

business. The Commission believes that many different systems or

procedures may be effective for accomplishing the objectives of the

supervisory duties and, therefore, would satisfy the requirements of

the safe harbor.

Paragraph (f) of the reproposed rule incorporates many of the

suggestions contained in the comments for reducing the burdens

attendant to supervision of the system. The Commission believes that

these new paragraphs add detail and objectivity to the reason to know

requirements of the Market Reform Act and, therefore, reduce the burden

of the supervisory scheme of the reproposed rule. The Commission also

believes that these provisions are consistent with the general

supervisory obligation imposed on broker-dealers by the Exchange

Act.72 The Commission, however, specifically solicits comments on

the reproposed supervisory scheme and whether other more effective

means exist, within the limitations provided by the Market Reform Act,

for assuring the accuracy or reliability of information collected

through the reproposed system and maintaining a level playing field

between broker-dealers and banks.

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\7\2 See e.g., Sections 15(b)(4)(E) of the Exchange Act, 15

U.S.C. 78o(b)(4)(E) (1988).

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F. Exemptions

Section 13(h)(6) of the Exchange Act authorizes the Commission to

exempt any person or class of persons or any transaction or class of

transactions, either conditionally, upon specific terms and conditions,

or for stated periods. The Commission may provide for such exemptions

through rules or orders that are consistent with the purposes of the

Exchange Act.73

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\7\3 See 15 U.S.C. 78m(h)(6) (1990).

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The commenters did not express objections to the proposed

exemptions, which were based upon the capture of similar information by

SROs or involve activity generally deemed not to affect markets for

publicly traded securities. The commenters, however, suggested

additional classes of persons and transactions that should be exempt.

These suggested exemptions included: (1) Introducing broker-dealers;

(2) foreign and domestic market makers; (3) certain custodian banks;

(4) small investment managers; (5) unit investment trusts; (6) issuer

repurchases; and (7) after-hours foreign trading activity.

Paragraph (g)(1) of the reproposed rule would specifically provide

that certain broker-dealers are exempt from the identification,

recordkeeping, and reporting requirements of the Rule. The reproposed

rule would retain the exemptions proposed (i.e., specialists, option

market makers, and floor brokers) and add market makers registered by a

national securities association to the extent that they are acting in

their market making capacity.

Paragraph (g)(2) of the reproposed rule would exempt certain

transactions and introducing broker-dealers from the reporting

requirements. The specific transactions that would be exempt from the

reporting requirements only include those transactions effected by

specialists, option market makers, and other market makers in the

publicly traded securities for which they are registered. In addition,

paragraph (g)(2)(iii) has been added to definitively exempt introducing

broker-dealers that do not carry accounts for themselves or others from

the reporting requirements of the reproposed rule.

The Commission believes that the comprehensive exemptions for

entities that are subject to similar SRO recordkeeping and reporting

requirements would establish an equal competitive environment between

all forms of market professionals that are registered with an SRO. The

Commission also believes that these exemptions would assure that the

reproposed system collects the appropriate information from the

appropriate registered broker-dealers.

With respect to other suggested exemptions, the Commission believes

that some have been incorporated in portions of the reproposed rule.

For instance, the reproposed definition of a large trader, reduced

scope of Form 13H, and inactive filing status, would implicitly exempt

or significantly reduce the burden on custodian banks or trust

companies, foreign market makers, and unit investment trusts.74 On

the other hand, the Commission believes that some of the other

suggested exemptions would not be consistent with the purposes of the

large trader reporting provisions of the Exchange Act.75

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\7\4 Unit investment trusts, and similar ``closed-end mutual

funds,'' essentially are fixed portfolios of securities assembled by

a sponsor and held for the life of the trust. Typically, these

entities investments are static and, therefore, the identification

or reporting requirements of the reproposed rule may be triggered

only at their inception and termination. The new inactive status was

designed, in part, with these entities in mind and would effectively

eliminate the ongoing burdens of the reproposed rule on these

entities.

\7\5 These suggested exemptions would include: (1) ``small''

investment advisers that control ``large transactions'' (i.e.,

transactions that reach the identifying activity level); (2) issuer

repurchases; and (3) after-hours foreign trading activity.

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The exemptive provisions of the reproposed rule acknowledge the

existing systems for collecting similar information. The Commission

believes that these exemptions accomplish the purposes of the Market

Reform Act and minimize the number of persons affected by the various

aspects of the reproposed rule.

G. Application to Foreign Entities

In the Proposing Release, the Commission discussed the application

of the proposed rule to foreign entities.76 The Commission was,

and continues to be, concerned that excluding foreign entities and

persons would leave domestic markets and exchanges at a competitive

disadvantage relative to foreign markets and exchanges. Moreover, the

Commission is concerned that the exclusion of foreign intermediaries

(i.e., broker-dealers and banks) that maintain omnibus accounts with

domestic broker-dealers would competitively disadvantage domestic

intermediaries that perform omnibus trade execution or custodial

functions for large traders. The Commission believes that the

preservation of a fair competitive environment is fundamental to the

accomplishment of the purposes of the Market Reform Act.

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\7\6 See Proposing Release, 56 FR 42558, at text accompanying

nn. 105-109.

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The Commission solicited comments from foreign and domestic market

participants and foreign regulatory agencies regarding the application

of the proposed rule and, specifically, alternative means for filing

Form 13H, maintaining Form 13H information, and assigning LTIDs. The

Commission received 15 comments from foreign entities.77 These

commenters questioned the extent to which the proposed rule would apply

and asserted that compliance with the proposed rule may cause breaches

of certain local confidentiality requirements.

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\7\7 Of these 15 comments, 12 were submitted by regulatory

organizations or industry associations, including; the Ambassador of

France, London Stock Exchange, British Department of Trade and

Industry, German Ministry of Finance, Association of German Banks,

British Merchant Banking and Securities House Association,

Delegation of the Commission of the European Communities,

Institutional Fund Managers Association, Institute of International

Bankers, Swiss Bankers Association, Hong Kong Association of Banks,

and Thesaurier-Generaal of the Netherlands.

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Many of these commenters generally asserted, without explanation,

that the application of the proposed rule was unacceptable. A few of

the commenters acknowledged the existence of memoranda of understanding

(``MOUs''), however, none offered specific ideas or sought further

discussions regarding alternatives or the development of ``MOU-type''

understandings. It should be noted that, in an enforcement context, the

Commission would continue to obtain information from foreign regulatory

authorities pursuant to existing MOU protocols.

As discussed above, the application and scope of the reproposed

rule would be established by the definition of a large trader, which

closely tracks Section 13(h)(8)(A) of the Exchange Act.78 The

Commission also notes that foreign broker-dealers would not be subject

to recordkeeping or transaction reporting requirements of the

reproposed rule. Accordingly, only foreign entities that are large

traders would be subject to the reproposed rule. The duties and burdens

imposed on all large traders include: (1) Filing Form 13H; (2)

disclosing large trader status; (3) providing other information about

accounts and reported transactions; and (4) if the foreign large trader

maintains or controls transactions in an omnibus account carried by a

registered broker-dealer, and the duty to assure compliance with the

identification and disaggregation requirements of the reproposed rule.

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\7\8 15 U.S.C. 78m(h)(8)(A) (1990).

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A foreign entity or person would be a large trader, thus subject to

the reproposed rule, only if the following four elements are present:

(1) A person owns or controls an account or aggregated accounts; (2)

such person effects aggregate transactions in publicly traded

securities that reach the identifying activity level; (3) such

transactions are effected directly or indirectly by or through accounts

maintained by a registered broker-dealer; and (4) such transactions are

effected by use of any means or instrumentality of interstate commerce

or the mails or any facility of a national securities exchange.

The various combinations of these elements are too numerous to

discuss at length. However, the bounds of the application of the

reproposed rule may be explored through the analysis of two typical

examples of securities activity that may be referred to as ``foreign

activity.'' First, assume that a foreign bank maintains an omnibus

account with a domestic registered broker-dealer. Through this omnibus

account, the foreign bank effects trades in publicly traded securities

on a national securities exchange for its foreign customers (i.e.,

citizens of, or persons domiciled in, a foreign country) that reach the

identifying activity level. In this case, the foreign bank would be a

custodian or nominee large trader and would be required to: (1) File

Form 13H and Schedules 7b and/or 8; (2) disclose its LTID and all such

accounts to the registered broker-dealers carrying such accounts; (3)

assure compliance with the disaggregation and identification

requirements as well as the accuracy of Schedules 7b or 8; and (4) if

requested, disaggregate accounts or transactions.

As noted above, the foreign bank large trader would not be required

to disclose on its Form 13H the non-large trader foreign customers

whose trades are effected through its omnibus accounts. However, the

reproposed rules would require the foreign bank large trader to assure

that the information contained on Schedules 7b and 8 is accurate and

complete. Accordingly, the foreign bank large trader would be required

to disclose to the Commission the LTID or IID System numbers of its

identified large trader customers.

In addition, if the foreign bank large trader effects transactions

through such omnibus accounts for one of its customers and such

transactions reach the identifying activity level, then in order to

assure compliance with the disaggregation and identification

requirements of the reproposed rule, the foreign bank large trader

would have a duty to advise such foreign customer of its duty to file

Form 13H and disclose its status in accordance with the reproposed

rule. This duty would apply to the foreign bank large trader whether

the customer's transactions were effected on a discretionary or non-

discretionary basis.

For a second example, assume that a registered broker-dealer

carries the account of a domestic or foreign customer, and it effects a

program trade in publicly traded securities in a foreign over-the-

counter market or exchange. In order to effect the trade, the

registered broker-dealer transmits the order information by facsimile

to a foreign broker-dealer affiliate. Further, assume that the

affiliated foreign broker-dealer effects the transaction for an omnibus

account which it carries in the name of the domestic broker-dealer.

This activity would cause the foreign or domestic customer to be a

large trader because it owned accounts, had effected the requisite

trades indirectly through an account maintained by a registered broker-

dealer, and through the means or instrumentality of interstate

commerce.

Alternatively, if the foreign broker-dealer exercised control over

the transaction then it also would be a large trader because it would

have controlled accounts and effected the requisite trades by or

through an account carried by a registered broker-dealer. Conversely,

neither the customer or foreign broker-dealer would be large traders if

the trade was effected exclusively by or for an account owned or

controlled by the foreign or domestic customer and carried by the

foreign broker-dealer, because the transaction would not be effected

directly or indirectly by or for an account carried by a registered

broker-dealer.

As discussed above, the identification requirements would

significantly clarify and narrow the scope of the reproposed rule and,

thereby, reduce the associated burdens on all large traders.

Accordingly, the Commission believes that the burdens imposed on

foreign large traders are necessary and appropriate, not unduly

burdensome, and are imposed uniformly on domestic and foreign markets,

exchanges, intermediaries, and investors.

H. Proposed Implementation

The Commission proposes that the transaction reporting requirements

contained in paragraph (e) of the reproposed rule become effective 18

months after adoption of the final rule. The Commission believes that

this time frame would provide sufficient time for the securities

information processors and broker-dealers to plan, design, and

implement all of the various enhancements to existing transaction

reporting systems required by the reproposed rule. During this

implementation period, the Commission would conduct periodic tests of

the trade reporting system and work closely with broker-dealers, SIAC,

and the ISG to develop all of the technical data processing software

required by the reproposed rule.

The Commission believes that this implementation objective would

facilitate the cost-effective development of the transaction reporting

systems required by the reproposed rule. The Commission specifically

solicits comments on whether the proposed 18 month period would be

feasible.

I. Statutory Authority

Section 13(h)(5) of the Exchange Act requires the Commission, when

exercising its rulemaking authority for large trader reporting, to

consider: (1) Existing reporting systems; (2) the costs associated with

keeping and reporting large trader information; and (3) the

relationship between United States and international securities

markets. The Commission considered these requirements when formulating

the proposed rule and firmly believed that, notwithstanding certain

elements of the proposed rule that may cause market participants to

incur additional costs, the proposed system minimized costs in

virtually every respect. The additional costs acknowledged by the

Commission, included: (1) Preparation, filing, and updating Form 13H;

(2) maintenance and reporting of large trader transaction information;

(3) maintenance and reporting of LTIDs and execution times; and (4)

development and implementation of supervisory systems and procedures.

The reproposed rule reflects the Commission's commitment to work

with market participants to incorporate all existing industry systems

that would minimize the costs associated with the reproposed system.

The reproposed rule also reflects the Commission's conscious decision

to shift substantial portions of the burdens imposed by the proposed

rule from market participants to the Commission. Further, the foreign

application of the reproposed rule has been carefully considered in

light of its impact on the relationship between foreign and domestic

securities markets, intermediaries, and investors.

The Commission believes that the comments on the proposed rule

highlight the complexity of designing a simple and efficient large

trader system that accommodates many different types of large traders

as well as business practices and procedures. Faced with these

conflicting needs and practices, the Commission is reproposing rules

that it believes would minimize the costs and burdens imposed on the

greatest number of affected market participants.

The Commission believes that the reproposed rule narrows and

clarifies the definition of a large trader, and thus reduces the costs

and burdens of the system. The revisions to the identification

requirements, through the various definitions and rules for

aggregation, have significantly reduced the number of persons who would

be subject to the identification requirements of the reproposed rule.

The inactive filing status, and the other filing or disclosure

requirements, have been revised to incorporate other existing

information and eliminate unnecessary information.

The Commission believes that the information captured and disclosed

under the reproposed identification requirements would be the minimum

necessary for creating an effective large trader reconstruction tool.

Moreover, the Commission believes that such information would be

collected or disclosed in a fashion that approximates existing systems,

practices, and procedures commonly used by all forms of large

traders.79

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\7\9The Commission reiterates its belief that the reproposed

rule is consistent with the intent of the Market Reform Act and only

requires identification or disclosure of large traders whose

transactions are effected through omnibus accounts, and not ``small

beneficial owners'' whose trades are effected through such accounts.

See Proposing Release, 56 FR 42553, at n. 41 (citing the Senate

Report); and House Report, supra n. 4, at 25.

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The modifications and additions to the recordkeeping and reporting

requirements of the reproposed rule would significantly clarify their

application and reduce technical burdens. The Commission believes that

the reproposed rule's additional elements of transaction information,

combined with the new reporting requirements for multiple LTIDs and

system or manual order execution times, incorporate existing

recordkeeping and reporting practices, procedures, and systems for

customer trade information. As a result, the Commission believes that

the reproposed recordkeeping and reporting requirements would provide

the least burdensome method of collecting large trader transaction

information.

The supervisory provisions of the reproposed rule would clarify the

duty to supervise. The supervisory obligations also would assure the

credibility of the reproposed system and a level playing field between

broker-dealers and other omnibus large traders to the greatest extent

permitted by the Market Reform Act. The Commission believes that the

new safe harbor provision provides meaningful detail and objectivity

that would considerably reduce the burden of the supervisory duties.

The Commission also believes that the reduced burdens of the

identification requirements may foster greater compliance with the

reproposed rule and indirectly reduce the supervisory burden of broker-

dealers and omnibus large traders.

The Commission believes that the reproposed rule's application to

foreign entities and persons would accomplish the objectives of the

Market Reform Act by maintaining uniformity between domestic and

foreign markets, exchanges, intermediaries, and investors. Finally, the

Commission believes that the proposed plan for implementing the

transaction reporting system would facilitate its cost-effective

development.

IV. Conclusion

The Commission is reproposing Rule 13h-1 and Form 13H, which would

establish an activity-based identification, recordkeeping, and

reporting system for large trader accounts and transactions. This

system would enable the Commission to gather large trader information

in a timely manner and in the form necessary to reconstruct trading

activity in periods of market stress and for surveillance, enforcement,

and other regulatory purposes. The Commission believes that the

reproposed rule achieves the objectives of the Market Reform Act and

would establish an effective market reconstruction tool that minimizes

costs.

V. Effects on Competition and Regulatory Flexibility Analysis

Section 23(a) of the Exchange Act80 requires that the

Commission, when proposing rules under the Exchange Act, consider the

effects on competition of such rules, if any, and balance any anti-

competitive impact against the regulatory benefits gained in terms of

furthering the purposes of the Exchange Act. The Commission is of the

view that the Rule will not result in any burden on competition that is

not necessary or appropriate in furtherance of the purposes of the

Exchange Act.

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\8\015 U.S.C. 78w(a) (1988).

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Pursuant to the requirements of the Regulatory Flexibility

Act,81 the Commission previously prepared an Initial Regulatory

Flexibility Analysis (``IRFA''), concerning the proposed rule. The IRFA

indicated that the proposed rule may impose some additional costs on

small broker-dealers, small investment advisers, and small investors.

The Commission has prepared a revised IRFA that details the changes to

the proposed rule found in the reproposed rule. The Commission believes

that the reproposed rule has been structured in a manner that further

minimizes the costs of the reproposed system and fulfills the

requirements of the Market Reform Act and section 13(h) of the Exchange

Act. A copy of the revised IRFA may be obtained from Cameron D. Smith,

Staff Attorney, Division of Market Regulation, Securities and Exchange

Commission, 450 Fifth Street NW., Washington, DC 20549, (202) 272-5418.

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\8\15 U.S.C. 604 (1988).

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VI. List of Subjects in 17 CFR Parts 240 and 249

Reporting and recordkeeping requirements, Securities.

In accordance with the foregoing, title 17, chapter II of the Code

of Federal Regulations is proposed to be amended as follows:

PART 240--GENERAL RULES AND REGULATIONS, SECURITIES EXCHANGE ACT OF

1934

1. The authority citation for part 240 continues to read in part as

follows:

Authority: 15 U.S.C. 77c, 77d, 77g, 77j, 77s, 77eee, 77ggg,

77nnn, 77sss, 77ttt, 78c, 78d, 78i, 78j, 78l, 78m, 78n, 78o, 78p,

78s, 78w, 78x, 78ll(d), 79q, 79t, 80a-20, 80a-23, 80a-29, 80a-37,

80b-3, 80b-4 and 80b-11, unless otherwise noted.

* * * * *

2. By adding Sec. 240.13h-1 to read as follows:

Sec. 240.13h-1 Large trader reporting system.

(a) Definitions. For purposes of this section--

(1) The term large trader means every person who, for an account

that he owns or controls, effects transactions for the purchase or sale

of any publicly traded security or securities by use of any means or

instrumentality of interstate commerce or of the mails, or of any

facility of a national securities exchange, directly or indirectly by

or through a registered broker or dealer in an aggregate amount equal

to or in excess of the identifying activity level.

(2) The term person shall mean those persons and entities specified

in Section 3(a)(9) of the Securities Exchange Act of 1934, two or more

persons acting as a partnership, limited partnership, syndicate, or

other group, but does not include a foreign central bank, and also

includes such persons, entities, partnerships, or groups acting as a

trustee.

(3) The term account or accounts means each proprietary and

customer account maintained or carried by a registered broker or

dealer, which is disclosed or undisclosed to such broker or dealer as

to ownership, and for which books and records are required to be made

and kept in accordance with the provisions of Sec. 240.17a-3.

(4) Ownership. An account of a person shall be deemed to be owned

or under common ownership of the person in whose name an account is

maintained, or a custodian or nominee that maintains an omnibus account

or accounts otherwise undisclosed as to ownership, and any other person

who has more than a 10 percent financial interest in the equity in the

account or accounts of such person.

(5) Control. An account of a person shall be deemed to be

controlled or under the common control of the owner of such account,

and any other person that has received or been assigned full or limited

investment discretion from the owner of such account. For purposes of

this section:

(i) The term full discretionary investment authority means the

discretion to enter orders for an account owned by another person, for

the purchase or sale of any publicly traded security or securities, of

any size, and at any time or price, without prior instruction or

approval of the owner of such account; and

(ii) The term limited discretionary investment authority means the

discretion to enter orders for an account owned by another person, for

the purchase or sale of any publicly traded security or securities,

limited only to the price or time of execution, upon the express prior

instruction or approval of the owner of such account.

(6) The term publicly traded security means any equity security,

option on an equity security, or an option on a group or index of

equity securities (or based on the value thereof) listed, or admitted

to unlisted trading privileges, on a national securities exchange and

all other national market system securities as defined in

Sec. 240.11Aa2-1.

(7) The term transaction or transactions means all transactions in

publicly traded securities, including cancellations, corrections, and

exercises or assignments of option contracts, except for the following

transactions:

(i) Any journal or bookkeeping entry made to an account in order to

record or memorialize the receipt or delivery of funds or securities

pursuant to the settlement of a transaction;

(ii) Any transaction that is part of an offering of securities by

or on behalf of an issuer, or by an underwriter on behalf of an issuer,

or an agent for an issuer, whether or not such offering is subject to

registration under the Securities Act of 1933, provided, however, That

this exemption shall not include an offering of securities effected

through the facilities of a national securities exchange;

(iii) Any transaction effected in reliance on Sec. 230.144A of this

chapter;

(iv) Any transaction that constitutes a gift;

(v) Any transaction effected by a court appointed executor,

administrator, or fiduciary pursuant to the distribution of a

decedent's estate;

(vi) Any transaction effected pursuant to a court order or judgment

for distribution of property in settlement of a marital proceeding;

(vii) Any transaction effected pursuant to a rollover of qualified

plan or trust assets subject to section 402(a)(5) of the Internal

Revenue Code (26 U.S.C. 402(a)(5)); or

(viii) Any transaction between an employer and its employee(s)

effected pursuant to the award, allocation, sale, grant or exercise of

a publicly traded security, option or other right to acquire securities

at a pre-established price pursuant to a plan which is primarily for

the purpose of an issuer benefit plan or compensatory arrangement.

(8) The term identifying activity level means:

(i) Aggregate transactions in publicly traded securities, effected

during a calendar day where the account is located, that are equal to

or greater than the lesser of 200,000 shares and fair market value of

$2,000,000, or fair market value of $10,000,000; or

(ii) Any transaction or transactions that constitute program

trading.

(9) The term program trading means either index arbitrage or any

trading strategy involving the related purchase or sale of a group or

basket of 15 or more publicly traded securities that have a total fair

market value of $1,000,000 or more.

(10) The term index arbitrage means a trading strategy involving

the purchase or sale of a group or basket of publicly traded securities

in conjunction with the purchase or sale, or intended purchase or sale,

of one or more cash-settled option or futures contracts on a group or

index of equity securities (or based on the value thereof), or options

on such futures contracts (collectively, derivative index products) in

an attempt to profit from a difference between the price of a group or

basket of equity securities and the price of a derivative index product

through transactions that need not be executed contemporaneously.

(b) Identification requirements for large traders.--(1) Form 13H.

Each large trader shall file Form 13H (17 CFR 249.327) with the

Commission, in accordance with the instructions contained therein:

(i) Within 10 business days after first effecting aggregate

transactions, or after effecting aggregate transactions subsequent to

becoming inactive pursuant to paragraph (b)(3) of this section, which

equal or exceed the identifying activity level; and

(ii) Within 60 calendar days after the end of each full calendar

year thereafter.

(2) Disclosure of large trader status. Each large trader that:

(i) Controls an account, or acts as a custodian or nominee for an

omnibus account, shall disclose its large trader identification number

and all of its owned or controlled accounts to any registered broker or

dealer that carries such accounts;

(ii) Controls an omnibus account, shall disclose its large trader

identification number or Depository Trust Company Institutional

Delivery System number to the custodian or nominee of such omnibus

account; or

(iii) Owns an account for which it has assigned control to another

person, shall disclose its large trader identification number or

Depository Trust Company Institutional Delivery System number to such

other person.

(3) Inactive Status. A large trader that has not effected aggregate

transactions during the previous full calendar year that equal or

exceed the identifying activity level and an aggregate calendar year

total of 2,000,000 shares or fair market value of $30,000,000, shall

become inactive upon filing and shall not be required to file Form 13H

or disclose its large trader status thereafter.

(4) Other Information. Large traders shall provide the Commission

with such other descriptive or clarifying information it may request

from time to time regarding accounts, or transactions effected through

accounts, identified on Form 13H.

(c) Aggregation of accounts and transactions.--(1) Accounts. For

the purpose of determining whether a person is a large trader, the

following shall apply:

(i) All accounts through which transactions are effected directly

or indirectly by a person that are owned or controlled by, or under

common ownership or control with such person, which independently would

be a large trader, may be aggregated;

(ii) All accounts through which transactions are effected directly

or indirectly by a person owned or controlled by, or under common

ownership or control with such person, which independently would not be

a large trader, shall be aggregated; and

(iii) Under no circumstances shall a person or group of persons

acting in concert toward a common investment objective, be permitted to

disaggregate accounts owned or controlled by or under the common

ownership or control of such person or group of persons, in order to

avoid the identification requirements of this section.

(2) Transactions. For the purpose of determining whether a person

is a large trader, the following shall apply:

(i) The gross volume or fair market value of transactions in equity

securities and the gross exercise volume or exercise value of the

equity securities underlying transactions in options on equity

securities, purchased and sold, shall be aggregated;

(ii) The gross exercise value of transactions in options on a group

or index of equity securities (or based on the value thereof),

purchased and sold, shall be aggregated; and

(iii) Under no circumstances shall a person or group of persons be

permitted to subtract, offset, or net purchase and sale transactions,

in equity securities or option contracts, and among or within accounts,

when aggregating the volume or fair market value of transactions

effected under this section.

(3) Disaggregation.--(i) Generally. The Commission may require a

large trader to disaggregate accounts or transactions in any manner,

and provide additional transaction or other information relating to

transactions previously reported by a registered broker or dealer, in

such cases and upon reasonable terms and conditions considering the

operational capabilities of such large trader, when it determines such

to be necessary or appropriate in the public interest, for the

protection of investors, or otherwise in the furtherance of the

purposes of this section.

(ii) Omnibus accounts. Large traders that effect transactions

through or maintain omnibus accounts with a registered broker or dealer

shall establish and maintain policies and procedures reasonably

designed to assure compliance with the disaggregation and

identification requirements of this section and, in particular, assure

the accuracy and completeness of Schedules 7b or 8 to Form 13H.

Policies and procedures that are substantially comparable to those

described in paragraph (f) of this section shall be deemed to be in

compliance with this section.

(d) Recordkeeping requirements for brokers and dealers.--(1)

Generally. Every registered broker or dealer that carries accounts for

large traders and persons such broker or dealer knows or has reason to

know are large traders, based on transactions effected by or through

such broker or dealer, shall maintain records of all elements of

information for all transactions effected directly or indirectly by or

through an account carried by such broker or dealer for all large

traders and persons that such broker or dealer knows or has reason to

know are large traders.

(2) Specific information. The elements of information required to

be maintained for all transactions, shall include:

(i) Date on which the transaction was executed;

(ii) Account number;

(iii) Identifying symbol assigned to the security;

(iv) Transaction price;

(v) The number of shares or option contracts traded and whether

such transaction was a purchase, sale, or short sale, and if an option

transaction, whether such was a call or put option, an opening purchase

or sale, a closing purchase or sale, or an exercise or assignment;

(vi) The clearing house number of such broker or dealer and the

clearing house numbers of the brokers or dealers on the opposite side

of the transaction;

(vii) A designation of whether the transaction was effected or

caused to be effected for the account of a customer of such broker or

dealer, or was a proprietary transaction effected or caused to be

effected for the account of such broker or dealer;

(viii) Market center where the transaction was executed;

(ix) The time that the transaction was executed, as required to be

reported under paragraph (e) of this section;

(x) The large trader identification number, of the person that

controls the account or the custodian or nominee of an omnibus account,

for which the transaction was effected;

(xi) The Depository Trust Company Institutional Delivery System

numbers of agents, broker-dealers, institutions, and other interested

parties otherwise maintained by such broker or dealer for the account

for which a transaction is effected;

(xii) The code, identification, or sequence number assigned to a

transaction that was routed or effected through an automated order

routing system maintained by a self-regulatory organization; and

(xiii) Any other codes, designations, or identifiers that the

Commission may deem necessary or appropriate for compliance with the

recordkeeping or reporting requirements of this section.

(3) Retention. The records and information required to be made and

kept pursuant to the provisions of this section shall be kept for such

periods of time as provided in Sec. 240.17a-4(b).

(e) Reporting requirements for brokers and dealers.--(1) Generally.

Upon the request of the Commission, or a self-regulatory organization

designated by the Commission, every registered broker or dealer that

carries accounts for large traders and other persons for whom records

must be maintained, shall electronically report in machine-readable

form and in accordance with instructions issued by the Commission, all

elements of information for all transactions effected directly or

indirectly by or through accounts carried by such broker or dealer for

large traders and other persons for whom records must be maintained,

which equal or exceed the reporting activity level.

(2) The term reporting activity level means:

(i) Each transaction in publicly traded securities, effected during

a calendar day where the account is located, that is equal to or

greater than the lesser of 2,000 shares or fair market value of

$100,000;

(ii) Any other transaction in publicly traded securities of lesser

amount, that a registered broker or dealer may deem appropriate;

(iii) Each transaction, regardless of share quantity or fair market

value, that is part of a group of transactions that constitute program

trading; or

(iv) Such other amount that may be established by order of the

Commission from time to time.

(3) System orders. With respect to transactions routed or effected

through an automated order routing system maintained by a self-

regulatory organization, registered brokers or dealers shall report,

all elements of information for all transactions required to be

maintained, including the time that the transaction was executed,

before the close of business on the day specified in the request for

such transaction information.

(4) Manual orders. With respect to transactions that are not routed

or effected through an automated order routing system maintained by a

self-regulatory organization, registered brokers or dealers shall

report:

(i) All elements of information for all transactions required to be

maintained, except the time that the transaction was executed, before

the close of business on the day specified in a request for such

transaction information; and

(ii) The time that each of such transactions were executed, within

15 calendar days after receipt of a specific request for such

information.

(5) Unidentified large traders. With respect to transactions

effected directly or indirectly by or through the account of a person

that a registered broker or dealer knows or has reason to know is a

large trader, all elements of information for all transactions required

to be maintained and such person's name, address, date that the account

was opened, and tax identification number(s) shall be reported.

(f) Supervisory safe harbor. For the purposes of this section, a

registered broker or dealer shall not be deemed to know or have reason

to know that a person is a large trader if it establishes policies and

procedures reasonably designed to assure compliance with the

identification requirements of this section and does not have actual

knowledge that a person is a large trader. Policies and procedures

shall be deemed to satisfy this section, if they include:

(1) Systems reasonably designed to detect and identify persons that

have not complied with the identification requirements of this section,

which such broker-dealer knows or has reason to know is a large trader,

based upon transactions effected through an account or a group of

accounts, that may be identified as a large trader, based on account

name, tax identification number, or other information readily available

to such broker-dealer; and

(2) Systems reasonably designed to inform large traders of their

obligations to file Form 13H and disclose large trader status under

this section.

(g) Exemptions.--(1) Comprehensive. The identification,

recordkeeping, and reporting requirements of this section shall not

apply to any registered broker or dealer that does not carry accounts

for itself or others, and:

(i) Is registered as a specialist or option market maker by a

national securities exchange;

(ii) Is a member or allied member of a national securities exchange

that exclusively executes transactions on the floor of such national

securities exchange; or

(iii) Is registered as a market maker by a national securities

association to the extent that it effects transactions in its capacity

as a registered market maker.

(2) Reporting requirements. The reporting requirements of this

section shall not apply to:

(i) Transactions for the account of a specialist or option market

maker registered by a national securities exchange, effected in its

capacity as a registered specialist or option market maker;

(ii) Transactions for the account of a market make

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